Categories
SEARCH RESULTS
  • WEBINAR: Insider Trading: Compliance and Beyond

    ARX Administrator    Suresh Gupta, Shreenivas Kunte CFA, CIPM
    20 Nov 2018
    2
    0

    This article qualifies for 1 CE under the guidelines of the CFA Institute Continuing Education Program. 
    We encourage CFA Institute members to login to the CE tracking tool to self-document these credits. 

    This webinar provides insights on the topic of insider trading, the webinar included Insider trading overview: intent and evolution, Required standards of practice, Common pitfalls, Case studies
  • FinTech 2018: The Asia Pacific Edition

    20 Nov 2018
    50
    16

    To bring more clarity to the question of how FinTech will affect the prospects of financial institutions and careers of our members and other stakeholders, CFA Institute has compiled the report FinTech 2018: The Asia Pacific Edition.
     
    This is a continuation of our effort summarized in the report FinTech 2017: China, Asia, and Beyond. The 2018 report is composed of three sections. The first covers the various businesses under the “Fin” umbrella, including banking FinTech, robo advice, insurtech, and regtech. The second section reviews the progress in “Tech” that’s relevant for financial institutions—namely, artificial intelligence, big data, cloud computing, and blockchain. The last section covers major FinTech developments in key Asia Pacific financial markets, including Australia, Japan, India, Singapore, and Thailand, in addition to China and Hong Kong SAR (which are also covered in last year’s report).
     
    The report is a compendium of articles and expert interviews, which can be read in any order. The common threads across the report are as follows:
     
    Artificial intelligence, big data, and cloud computing have made it possible for teams and organizations armed with better technology resources to outperform those that are not.
     
    Blockchain may have profound implications for the way financial institutions operate in the future. The technology is not yet mature and will need to overcome hurdles with respect to developing a sustainable business model and gaining regulatory approval.
     
    China leads the Asia Pacific region in FinTech development with its focus on the newer technologies. In many other Asia Pacific markets, FinTech is still defined by alternative lending, mobile payments, robo advice, and so forth. 
  • Ethics in Practice: Trading in Mutual Funds

    19 Nov 2018
    6
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 48)
    Cherrington is a registered representative with a US broker/dealer who has a number of individual clients, including his mother. Cherrington trades mutual fund shares for his mother’s account, which has a long-term investment horizon. All of these funds have similar long-term risk and return objectives. Cherrington split $731,265 in investment funds in his mother’s account among 42 different mutual funds in 11 fund families. For the majority of mutual fund purchases, he sold the funds within 92 to 274 days of purchasing them. Cherrington earned $24,747 in sales charges for these trades but discounted the fees 10% because it was his mother’s account. Cherrington’s actions are

    A. unacceptable because Cherrington treated clients unfairly by discounting the fees in his mother’s account.
    B. acceptable because mutual funds are safe long-term investments.
    C. unacceptable because the trades resulted in unsuitable investments.
    D. acceptable because Cherrington diversified his mother’s investments among funds with a strategy that matched her long-term strategy and outlook. 

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • WEBINAR: Practitioner insights from India: The healthcare and pharmaceutical sectors

    ARX Administrator    Prashant Nair CFA, Shreenivas Kunte CFA, CIPM
    19 Nov 2018
    18
    0

    This article qualifies for 1 CE under the guidelines of the CFA Institute Continuing Education Program. 
    We encourage CFA Institute members to login to the CE tracking tool to self-document these credits. 

    This webinar offers a historical and structural overview of India's healthcare and pharmaceutical sectors. It includes insights on sector assumptions and drivers, which analysts should consider when building their models.
  • Ethics in Practice: Issuer-Paid Research

    18 Nov 2018
    13
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 47)
    Estevez is a senior research analyst with BIR, a boutique investment research firm that covers micro- and small-cap companies. These companies hire BIR to provide research coverage to promote their stock to investors who otherwise might not be aware of them. Because of BIR’s stellar reputation, its research services are in heavy demand by both investors and those companies seeking to get on investors’ radar. Estevez helps BIR select the companies that should receive coverage and also oversees a team of junior analysts who conduct the research. Some companies encourage Estevez to select their company for research by providing her a separate bonus if they are included in the BIR research universe. Estevez’s actions are

    A. unacceptable because her independence and objectivity in conducting the research are compromised if the research is solicited and paid for by the covered company.
    B. acceptable as long as Estevez does not use material nonpublic information from the company.
    C. unacceptable if Estevez’s compensation from BIR is tied to the specific findings of the report.
    D. acceptable as long as her company approves offered payments from covered companies. 

    ANALYSIS
    The facts of this case relate to CFA Institute Standard IV(B): Additional Compensation Arrangements, which requires members to obtain written consent from their employer when they accept any gift, benefit, or compensation that might reasonably be expected to create a conflict of interest with their employer. In this case, Estevez receives a benefit from companies that are selected by BIR to receive research coverage. Because Estevez is involved in the process of choosing the companies that BIR agrees to research, that presents a conflict of interest because she might favor those companies that pay her the bonus.
    Issuer-paid research itself is not automatically unethical and does not automatically compromise the analyst’s independence and objectivity. But this area is fraught with conflicts, so important safeguards must be in place. BIR must adopt strict procedures protecting the inviolability of the analyst’s opinion from influence by the company. Such safeguards must also include full disclosure of any conflicts of interests on the part of the analyst conducting the research, full disclosure of any compensation arrangements, including the source of the payment for the research, and policies that disconnect the findings of the research from the level or nature of the payment. In this case, Estevez would have to disclose to her company that she is receiving the benefit from the issuer and BIR would have to disclose to the users of the report that the company paid Estevez the bonus and is paying for the research. The research could be considered independent and objective if Estevez did not use material nonpublic information from the company and if BIR’s compensation for the research from the company was not tied to the specifics of the report. But even if that was the case, it would not alleviate the issue of Estevez accepting bonuses from the covered companies without informing her employer. Choice D is the best answer, although it is incomplete because full disclosure is needed as well.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • ​WEBINAR: The world of derivatives and valuation control

    ARX Administrator    Karthik Ramamurthy, Shreenivas Kunte, CFA, CIPM
    15 Nov 2018
    34
    0

    This article qualifies for 1 CE under the guidelines of the CFA Institute Continuing Education Program. 
    We encourage CFA Institute members to login to the CE tracking tool to self-document these credits. 

    This webinar provides a broad overview of the valuation control process, including practitioner insights into best practices and current challenges. (Video: 1 hr)
  • 交易所交易基金(ETF)综 合指南

    Joseph Wong    Joanne M. Hill, Dave Nadig, Matt Hougan
    15 Nov 2018
    29
    1

    简介:为什么交易所交易基金会增长?
     
    本书旨在帮助投资者了解和使用交易所交易基金(ETF)。ETF的引入只有25年左右,但现在已经成为投资管理业务增长最快的领域。本书详细介绍了ETF的运作方式、其独特的投资和交易特性,以及它们如何运用于投资组合管理。此外,还详细说明了评估ETF的最佳方式,以确定适合任何特定投资
    或交易目标的正确基金。
     
    交易所交易基金让投资者能以很高的流动性进入金融市场的几乎每个角落,允许任意规模的投资者建立起管理费远低于典型共同基金的机构级投资组合。持仓状况和投资策略高度透明,有助于投资者轻松评估ETF的潜在回报和风险。
     
    本质而言,ETF是混合投资产品,融合了共同基金的许多投资特点与普通股票的交易特点。像共同基金一样,投资者买入ETF的股份,按比例拥有资产池的权益。像共同基金一样,ETF通常由投资顾问收取一定费用进行管理,并受1940年《投资公司法》的监管。但与共同基金不同的是,ETF股票在
    全球证券交易所的连续市场上交易,可以通过经纪账户进行买卖,并且在整个交易日都拥有连续定价和流动性。因此,它们能够以保证金持有、出借、卖空或用于资深股票投资者采用的任何其他策略。
     
    虽然也存在一些可在交易所交易的其他类型共同基金,尤其是传统的封闭式基金,但今天的ETF与它们截然不同。ETF通常在每一个交易日开市时披露自己的持仓情况,因此潜在的买家和卖家可以通过与标的资产的价格比较,评估交易的ETF价格。专业交易商可以在一天结束时,以净资产价值创设和赎回份额,这是一个有助于保持ETF市场价格与“公允价值”相一致的特性。
     
    截至2014年第1季度末,共计1,570只ETF在美国上市,管理资产总额近1.74万亿美元。2013年,ETF占所有共同基金资产的比例由十年前的2%增至超过11%,并且继续吸引个人和机构投资者资产。更令人印象深刻的是,在任何一天,ETF通常都会占到美国交易所美元总成交量的25%至40%。
     
    简而言之,在20年里,这些创新的金融产品已经从新生事物,变成塑造投资者的投资方式和市场自身运行的最重要因素之一。持续增长前景十分向好。在截至2013年的四年中,ETF分别吸引了1880亿美元、1880亿美元、1190亿美元和1220亿美元的净流入。2013年第3季度末,美国证券交易委员会登记了近1000只新ETF。最近,PIMCO等共同基金巨头已经强势进入ETF领域,而包括富达、T. Rowe Price和Janus在内的其他公司也向美国证券交易委员会递交了申请。从贝莱德到麦肯锡等公司的专家都预计,其整体资产将会在短期内翻一番。在第14章中,我们将从投资者应用和产品开发的角度,详细介绍ETF的未来。
     


    This publication qualifies for 5.0 CE credits under the guidelines of the CFA Institute Continuing Education Program.
  • 2018亚太金融科技概览

    13 Nov 2018
    398
    17

    引言

    自CFA Institute 关注金融科技以来,如何定义金融科技的问题就一直存在着争议。

    不同的定义反映出人们不同的关注点与诉求。过去的几年中,我们所关注和研究的思路和目标一直在不断的变化。我们对于金融科技的定义也在不断更新。

    早年的经验

    在商业领域,人们总是矢志不渝地探寻尖端领域。正如 2016 年开始关注金融科技的研究一样,我们敲开了一扇令人激动而神秘的大门。

    彼时我们的目标是回答CFA 持证人的疑问:金融科技是否会取代自己?如果答案是肯定的,那么多久会发生?我们采访了许多该领域的从业人员,他们一致认为金融科技给行业带来的影响是:颠覆、颠覆、颠覆。

    我们很快就意识到我们参与的价值所在。当时金融科技还是一个全新的概念,所谓的“意见领袖”大多来自金融科技初创企业。颠覆性的观点反映出他们的使命,也是他们战斗的口号。但其中缺少了在金融科技生态系统中两个重要的利益相关方,即金融机构,以及可能更重要的监管机构。

    随着大家对金融科技生态系统理解的不断加深,我们曾在 2016 年 5 月的一篇文章中指出:“金融科技公司最理想的发展路径是与银行合作。”我们的这一判断包含了两层含义:
    1. 金融机构和技术创新者都具备着对方难以复制的技能,因此,对他们而言,最好的机会是共同合作,双方都关注于自身的强项。
    2. 事实证明,对于大多数金融科技初创企业来说,“企业对消费者”(B2C)模式的成本太高;

    相反,“企业对企业”(B2B)模式则是初创企业唯一的机会。换句话说,初创企业通过提供技术方案与金融机构合作,这种模式更为现实。

    在随后的两年中,我们的观点被多次证明是正确的,我们与该领域的从业者交流时对此感受颇深。对我们而言,最有趣的案例就是微软同华夏基金的合作(中国顶级公募基金之一)。2017 年夏,二者宣布在投资和投资顾问方面展开深入合作,这些领域都非常接近我们此前论述的核心。随后,几乎所有中国大型银行均与主要合作伙伴签订了类似协议。2018 年1 月,沃伦·巴菲特的伯克希尔哈撒韦公司宣布与亚马逊和摩根大通合作,共同进军在线医疗保险领域。

    可期的未来

    之前,我们对金融科技的定义是金融领域的新技术,主要是指区块链、智能投顾、移动支付与P2P 贷款

    目前,这一定义已经远远不能涵盖我们所讨论的内容。因为我们发现,上述新业务并非对传统业务构成威胁,而是对传统业务形成了有益的补充。我们怀着开放的心态去拥抱金融科技,这样一来,金融行业及金融机构便可以具备竞争优势。

    具体来看,大约一年前,我们就已经开始着手人工智能、大数据、云计算、区块链方面的研究,探究其对金融服务所产生的潜在影响,特别是在亚太地区的主要金融市场中贷款、支付、智能投顾以及保险这四大领域所受的影响如何。因而,目前我们对“金融科技”的定义粒度更细,包括“金融”与“科技”的多个方面。

    在过去的一年中,我们采访了很多服务于金融机构、技术创新公司、监管机构、投资者以及研究机构的专家,这本书就是我们合作努力的结果。全书的主要结论如下(剧透警报!):

    人工智能、大数据、云计算的发展使得拥有优势技术资源的团队领先没有技术资源的团队;
    区块链或将对金融机构未来的运营方式产生深远影响。但鉴于该技术尚未成熟,在形成可持续商业模式、获得监管部门批准方面仍存在许多障碍需要克服;

    中国在亚太地区金融科技领域的发展中处于领先的位置,在人工智能、大数据、云计算区块链领域均有涉及。而在其他亚太市场,金融科技目前仍仅局限于另类贷款、移动支付、智能投顾等;

    前瞻

    就在本书付梓之前,我们收到了2018 年普华永道独角兽CEO 调查的结果。调查表明,54% 的受访高管相信,合作是成功的关键;而只有23% 的高管认为内部开发是更好的方式。

    此外,近期普华永道发布的另一份报告中,研究人员发现,与此前广受欢迎的B2C 模式相比,当下采取B2B 模式的企业将成为主流。

    这听起来是不是有点耳熟?很高兴,我们正在正确的道路上前进。再次鸣谢所有对本卷顺利出刊做出贡献的人们。

    1曹实,CFA.FinTech以及金融业的未来.信报,2015. http://startupbeat. hkej.com/?p=29681
    2 FinTech 2017: China, Asia, and Beyond, CFA Institute, May 2017, p.3.
    3 https://www.pwccn.com/en/research-and-insights/pwc-unicorn-ceo-survey-2018.html
    4 https://www.pwccn.com/en/services/consulting/publications/new-trends-technology-enabling-to-b-services-whitepaper.html
  • Ethics in Practice: Client Promotion of Services

    08 Nov 2018
    12
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 46)
    King is a successful investment adviser with a number of high-net-worth clients who are very happy with him as their adviser. Many of King’s clients recommend his advisory services so that their friends and family can achieve the same positive results. King encourages these recommendations as a way to build his business. Each year, King holds an elaborate party for those clients who have referred new clients to his advisory firm to thank them for these referrals. At the party, King distributes nominal gift cards to attendees. In some instances, King offers discounts on advisory fees to clients who have provided him with referrals that prove to be particularly lucrative. Many of the clients attending these celebrations have been referred to King by other clients and they have, in turn, continued the cycle of recommending King to a wider circle of friends and family.
    King’s actions are

    A. acceptable as a proper method for client development.
    B. acceptable as a reward for client loyalty.
    C. acceptable as long as he treats all clients fairly.
    D. unacceptable.

    ANALYSIS
    This case relates to CFA Institute Standard VI(C): Referral Fees, which states that CFA Institute members must disclose any compensation, consideration, or benefit paid to others for the recommendation of services. In this case, King provides an elaborate party; distributes gift cards; and, in some cases, offers discounted advisory fees to only those clients who refer potential clients to him. These benefits must be disclosed. The facts of the case do not state whether King discloses the benefits that he gives for referrals to the potential incoming clients. The fact that some of the clients later become aware that he pays for referrals when they themselves are paid such fees is insufficient disclosure. If King wanted to hold a party or give gift cards to all his clients to reward their loyalty, whether or not they provided referrals, that would be acceptable. Arguably, King treats his clients fairly because he is offering the opportunity to receive these benefits and fee discounts to all his clients, so long as they make referrals to his business. Whether the clients access these benefits by making referrals is up to them. But regardless of whether King is treating all clients fairly, by not disclosing the benefits and compensation he awards for referrals, he has violated Standard VI(C). Choice D is the best answer.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Trading Illiquid Securities. 

    04 Nov 2018
    27
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 45)
    Zhang Zhi Ruo is an investment advisor offering clients fixed-income investment advice through numerous separately managed accounts and two pooled investment vehicles. She charges clients an advisory fee for assets under management (AUM) and does not charge clients based on trading activity. Zhang generally invests her fixed-income portfolios in nonrated, tax-exempt, and thinly traded municipal bonds that are issued to finance the construction of senior living facilities, schools, and prisons. Zhang often holds a controlling institutional position in the bonds held across client accounts. Zhang frequently arranges for authorized cross-trading in these securities to facilitate portfolio management and provide liquidity for terminating clients. By effecting cross trades among clients, rather than trading in the secondary market, Zhang provides selling clients with liquidity in an otherwise illiquid market while maintaining her controlling position in the securities.
    At the end of each month, Zhang prices the holdings in each client’s portfolio by obtaining bid-side evaluation quotes (bid price) from the various broker–dealers who underwrote each of the bonds. Frequently, Zhang challenges the prices quoted by the broker–dealers as too low and, in certain instances, the broker–dealers revise their quotes to Zhang’s proposed alternative price. When arranging cross trades, Zhang selects broker–dealers who are willing to execute cross trades at favorable, predetermined, spreads that are narrower than the average bid/ask spread of trades in the same or similar securities executed in the secondary market. The trades are executed at the bid price obtained from month-end valuation purposes.
    Zhang’s actions are

    A. inappropriate.
    B. appropriate because Zhang charges an advisory fee for AUM and therefore does not benefit from the cross trades.
    C. appropriate because Zhang is valuing thinly traded securities in her clients’ portfolios using price quotes from the underwriting broker–dealers who are familiar with the securities.
    D. appropriate because Zhang seeks best execution by using broker–dealers who are willing to execute the cross trades at favorable bid/ask spreads that are narrower than spreads in the secondary market. 

    ANALYSIS
    This case relates to CFA Institute Standard III(B): Fair Dealing, which requires CFA Institute members to deal fairly and objectively with all clients when taking investment action. Zhang’s actions violate this standard. By cross-trading securities at the bid price, rather than obtaining and using an average or midpoint between the bid and ask prices, Zhang’s use of the bid price in the transactions favored the buying clients over the selling clients. At the same time, Zhang favored the selling clients in those instances in which she successfully challenged the valuations of the securities as too low. Cross-transactions subsequently executed at these higher price levels disadvantaged Zhang’s buying clients, who ended up paying more than they would have had the bonds been available for purchase in the secondary market at terms similar to prior trades. Zhang’s disclosure of these practices would not help in this case as disclosure does not cure or excuse treating clients unfairly. It is not clear from the facts why Zhang challenged the price of the securities as too low, but this also represents a conflict of interest for Zhang in that a higher valuation presumably benefited her investment performance history. It’s also not clear that Zhang inappropriately influenced or manipulated the bond prices quoted by simply asking the brokers to reconsider their initial price. The brokers only occasionally revised the price upward. Zhang did not personally hold a controlling position but held the position by virtue of her many clients’ investments.
    Although Zhang did not benefit from the cross trades as her fees were based on AUM, Zhang failed to discharge adequately her best price and best execution obligations for her selling clients. Seeking valuation of thinly traded securities using broker–dealer quotes is appropriate; however, in this case, Zhang used quotes from the broker–dealers who were the original underwriters of the securities and not the executing broker–dealers who were trading the same or similar securities and who would have a better idea about recent bid/ask trading activity. Finally, even if the bid/ask spreads are narrower, Zhang failed to undertake any assessment as to whether the securities were available on better terms for buying clients in the secondary market. If the prices are too high, the valuation is inappropriate. Choice A is the best answer.

    This case is based on a 10 August 2018 administrative action by the US SEC.
     


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     
  • Ethics in Practice: Assessing Hedge Funds for Investment

    25 Oct 2018
    46
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 44)
    Soto manages assets for high-net-worth individuals, family groups, foundations, endowments, and similar institutions. Many of his clients have expressed interest in investing a portion of their assets in alternative investments to boost their portfolio return. Soto recommends particular alternative assets, including hedge funds, to his clients and monitors those investments on his clients’ behalf. Soto has developed written policies and procedures that he consistently applies when evaluating potential hedge fund investments, but he does not disclose these policies and procedures to his clients. Soto generally meets in-person with the hedge fund managers at the funds’ offices to discuss their implemented investment strategy, understand the culture of the manager, have increased access to review documents, and speak with the fund’s personnel. Unless he sees a red flag, Soto does not conduct comprehensive background checks on the managers and their key personnel.
    Several of the hedge fund managers he chooses as investments for his clients have undisclosed potential conflicts of interests, such as compensation arrangements or business activities with affiliates. When choosing potential hedge fund investments, Soto ensures that the investment style of the fund is suitable for his clients and intermittently checks to verify the fund’s commitment to that style over time. Although Soto does not independently verify the funds’ relationships with service providers, such as administrators and custodians, he does carefully evaluate the auditors of the fund when he is not familiar with the auditor. Some of the funds that Soto choses as investments for his clients have multiple changes in key third-party service providers over time. Soto relies on third-party legal consultants to review legal documents to evaluate such issues as redemption terms and restrictions. Soto relies on marketing material prepared by the hedge funds to provide his clients with as accurate as possible information about the investment. What do you think of Soto’s actions?

    A.Soto’s actions are acceptable under the CFA Institute Code of Ethics and Standards of Professional Conduct.
    B.Soto’s actions violate the CFA Institute Code of Ethics and Standards of Professional Conduct. 

    ANALYSIS
    This case involves CFA Institute Standard V(A): Diligence and Reasonable Basis, which requires CFA Institute members to exercise diligence, independence, and thoroughness in analyzing investments and making investment recommendations. In choosing hedge fund investments for his clients, Soto must undertake appropriate due diligence in evaluating the funds for potential investment for his clients. Does Soto’s actions meet the due diligence and reasonable basis requirement of the CFA Institute Code and Standards? Soto takes many steps to thoroughly evaluate the hedge fund investments, including consistently applying written policies and procedures when engaging in due diligence; holding in-person meetings at the funds’ offices to understand the investment strategy, evaluate the manager, meet with key personnel, and make sure the investment is suitable for his clients; investigating the auditor of the fund when it is unfamiliar; having the legal documents of the fund reviewed; and using the funds’ own statements and promotional material in an effort to accurately describe the fund to his clients.
    But some of Soto’s actions may not have been as strong as they could be, leading him to miss potential red flags. Although he adopts due diligence policies and procedures, he does not disseminate those to clients. He does background checks of fund personnel only when he sees a “red flag” leading him to miss potential conflicts of interest on the part of fund personnel. He does not check employment history, legal and regulatory matters, news sources, and independent references of firm personnel. He checks on a fund’s strategy and suitability for his clients, but he does not regularly go back to check the fund for style drift. He does not independently verify the relationships with certain fund service providers (administrators, custodians) and looks into the auditor only when he is not already familiar with them, potentially missing business relationship or other conflicts of interests that could undermine their independence. He outsources the legal document review to a third party, which may be appropriate if Soto does not have legal expertise but could be an issue if the third-party review is not thorough or as complete as necessary. Finally, by relying on the marketing material of the fund and not creating his own independent information for his clients, he could be providing false or misleading information prepared by the fund itself. Assessing due diligence is a very facts and circumstances specific exercise. If a client were to challenge Soto’s due diligence efforts as insufficient under Standard V(A), whether his diligence is adequate would likely depend on the specific facts of the case.
    This case is based on a 2014 Risk Alert by the US SEC Office of Compliance Inspections and Examinations.
     


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Understanding the investment fundamentals of the palm oil industry

    Joseph Wong    Eunice Chu, Clara Melot, Joyce Lam, Alan Lok, CFA, Guruprasad Jambunathan
    22 Oct 2018
    830
    80

    Part of the series "Sector analysis: a framework for investors"

    From cooking oil to biofuel, to the oleochemicals used in food additives, soaps, cosmetics, lubricants, and textiles, palm oil and its refined derivatives touch our lives in many ways. Given the commodity’s ubiquity, we decided to perform some extraction of our own, and provide insights into the factors and dynamics to consider when analysing companies involved in the production of palm oil.

    The report contains a full sector analysis for the palm oil industry and a question bank. 

    This publication qualifies for 1.0 CE credits under the guidelines of the CFA Institute Continuing Education Program.

     
  • Ethics in Practice: Trading in Cryptocurrency OK?

    17 Oct 2018
    38
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 43)
    Santos trades digital coins on cryptocurrency exchanges for both his own account and as an investment strategy for clients who have indicated an interest in such speculative trading and for whom it is appropriate. The cryptocurrency exchanges are unregulated markets. Santos is a member of “EasyCoin,” a chatroom in which coin traders gather that has thousands of members. EasyCoin is a private chatroom accessible by invitation only and is overseen by an anonymous moderator. Generally, the chatroom moderator announces a date, time, and exchange for members to initiate trading. At the set time, the moderator informs the chatroom of the particular cryptocurrency to be traded. Traders, including Santos, buy that digital coin creating a surge in the price with the intention of attempting to sell before the price collapses. Over the past several months, 47 different cryptocurrencies have been promoted on EasyCoin and generated $357 million in trades. Santos often profits from the rise in the price of the cryptocurrency by timing his trades correctly, but occasionally he buys and holds the digital coin too long and the price drops steeply before he can sell, causing him to lose money for himself and his clients. Santos actions are

    A. acceptable because Santos, unlike the moderator of the EasyCoin chatroom, is not actively organizing the trading of the digital coin.
    B. unacceptable because Santos is engaged in market manipulation.
    C. acceptable because he voluntarily engages in this speculative trading based on information in a private chatroom.
    D. unacceptable because speculative trading cryptocurrency in unregulated markets for client accounts is unethical.

    ANALYSIS
    The facts of this case are addressed by CFA Institute Standard II(B): Market Manipulation, which states that CFA Institute members must not engage in practices that distort prices or artificially inflate trading volume with the intent to mislead market participants. In this case, Santos, at the direction of the moderator in the EasyCoin chatroom, engages in trading with the intent to give the impression of price movement in a financial instrument. The fact that the financial instrument is a cryptocurrency trading in an unregulated market and not a conventional security trading in a public market does not affect the applicability of the standard. Although Santos is not organizing the run-up of the price for digital coin, his actions in trading the coin at the behest of the EasyCoin chatroom moderator at a particular time and on a particular market make Santos a participant in the manipulation scheme. Trading in speculative investments on behalf of himself or his clients is acceptable if appropriate and warranted by clients’ financial circumstances and risk tolerance. But engaging in fraud on the market through market manipulation is a violation of Standard II(B). The best answer is B.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Right Reasons to Transfer Retirement Funds?

    11 Oct 2018
    26
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 42)
    Reese works for Calloway Asset Management, an independent financial adviser. Calloway provides advice to its clients about whether they should switch their retirement savings from an occupational pension scheme (such as a defined pension plan) to a self-invested personal pension (SIPP), which allows investing in a wide variety of alternative investments. These investments offer the possibility for greater returns but are typically more high risk, illiquid, and esoteric, such as overseas property. Clients are directed to Reese and Calloway for advice on switching to a SIPP through an “Unregulated Introducer” who facilitates the sale of alternative investments to clients that decide to switch. The Unregulated Introducer, an affiliate of Calloway, actively promotes and introduces clients to the concept of investing in alternative investments and provides information on particular investment vehicles.
    If Reese recommends a client switch to a SIPP, the client returns to the Unregulated Introducer to purchase the alternative investments to place in his or her SIPP. The majority of Calloway’s, and thus Reese’s, clients are referred by the Unregulated Introducer. When determining whether a client should switch to a SIPP, Reese reviews the client’s overall financial circumstances, assesses the client’s existing pension provision, and evaluates the client’s attitude toward risk. But the predominant factor in Reese’s evaluation is the customer’s desire to use pension funds to purchase alternative investments.
    Therefore, for almost all of his clients, Reese recommends that they transfer their retirement savings to a SIPP. The Unregulated Introducer receives a commission fee from the alternative investment sponsors if clients purchase an alternative investment for their SIPP. Reese is a shareholder of the Unregulated Introducer and serves as a director on its board. He benefits financially from both the fees paid by clients for the advice from Calloway on whether to move to a SIPP and the commissions paid to the Unregulated Introducer for its role in the sale of the alternative investments. Reese

    A. acted properly when evaluating whether clients should switch their assets to a SIPP.
    B. may assume that his clients are aware of the affiliation between Calloway and the Unregulated Introducer.
    C. must disclose his role as a director and shareholder of the Unregulated Introducer to client’s seeking advice from Calloway.
    D. does not need to consider the suitability of particular alternative investments when recommending client’s switch their assets to a SIPP. 

    ANALYSIS
    This case involves CFA Institute Standard III(A): Loyalty, Prudence, and Care; Standard III(C): Suitability; and Standard VI(A): Disclosure of Conflicts. Under Standards III(A) and VI(A), CFA Institute members have a duty of loyalty to their clients, must act with reasonable care and exercise prudent judgment, must place their clients’ interests before their own, and must disclose any conflicts of interest. The suitability standard requires CFA Institute members to make a reasonable inquiry into a client’s investment experience, risk and return objectives, and financial restraints to determine whether an investment is suitable in the context of the client’s portfolio.

    Although Reese did inquire about clients’ relevant financial circumstances and tolerance for risk when making a recommendation about switching their assets to a SIPP, the facts indicate that the predominant factor in the recommendation was the client’s preexisting desire to purchase alternative assets. Thus, Reese’s work was not undertaken with reasonable care and prudent judgment because his evaluations and recommendations were unduly swayed by the client’s wishes rather than the financial circumstances, which means choice A would not be correct. Furthermore, knowing that clients will need to sell current investments to invest in a particular alternative asset, such as overseas property, Reese must consider the suitability of that investment when advising clients about whether to move their assets to a SIPP, so choice D is also not correct.
    It is clear that the Unregulated Introducer will only benefit financially if Reese recommends clients transfer their pension funds into a SIPP. Accordingly, Reese, by virtue of his relationship with the Unregulated Introducer, has a financial interest distinct from the client’s interest in the outcome of the advice he gives. Therefore, a conflict of interest exists between the interests of Reese in the outcome of the advice and the client’s interest in that outcome. Reese failed to ensure that his clients were informed of Reese’s and Calloway’s relationship with the Unregulated Introducer, and that they were informed of the financial benefit to Reese if the clients purchased alternative investments. This lack of disclosure prevented clients from being able to make a fully informed decision about whether to seek advice from Calloway about transferring their pension funds into a SIPP and to use their existing pension funds to purchase alternative investments. Choice C is the best answer.

    This case is based on facts from a recent Decision Notice from the UK Financial Conduct Authority.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     
  • Ethics in Practice: Disclose Investigation to CFA Institute? 

    04 Oct 2018
    20
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 41)
    Gordon is an investment representative at Wallsend Financial Services, a mutual fund dealer. Wallsend requires its employees to disclose outside business activity for review and approval by the firm. While working for Wallsend, Gordon serves as a director on four outside boards. Gordon gets approval from Wallsend for three of the boards positions, but the fourth is for a charity called Born in the 50s to help homeless children that is run by his father. Gordon does not submit the position for approval because it is a volunteer role that he has taken only temporarily to help his father. Wallsend eventually discovers Gordon’s service on the Born in the 50s board. Wallsend is in the process of reducing their workforce, and after confirming that Gordon failed to disclose his involvement on the additional board, they terminate him for violation of their policy. Now unemployed, Gordon receives his Professional Conduct Statement (PCS) from CFA Institute. Is Gordon required to disclose the internal investigation by Wallsend concerning his nondisclosed service as a director on the Born in the 50s board?

    A. No, it was an internal matter at Wallsend, and no client was involved.
    B. No, Gordon was a volunteer and his firing was unjustified and likely driven by Wallsend’s workforce reduction motive.
    C. No, this was not a question of Gordon’s professional conduct or activities.
    D. Yes, Gordon should disclose this matter on his PCS.

    Gordon ultimately decides not to disclose the matter to CFA Institute because he believes he was wrongfully terminated. But he receives a notice of investigation from the regulator concerning his violation of Wallsend’s internal policy. Gordon decides to just settle with the regulator. He receives a one-month suspension and a fine for violating the rules pertaining to outside business activity. CFA Institute discovers Gordon’s settlement with the regulator through its monitoring efforts and initiates its own investigation. As a CFA charterholder, Gordon is required to cooperate in the Professional Conduct investigation, but Gordon wants to resign his membership to avoid the CFA Institute investigation. What are Gordon’s options?

    A. Even if Gordon resigns, he was a member and charterholder at the time of the conduct and thus CFA Institute has jurisdiction over him.
    B. If Gordon refuses to cooperate, CFA Institute can impose a Summary Suspension followed by a Revocation of Gordon’s CFA® charter.
    C. If Gordon cooperates with the Professional Conduct investigation, he will be able to tell his side of the story and contribute evidence in support of his position.
    D. All of the above apply. 

    ANALYSIS
    This case addresses issues related to the disclosure, investigation, and sanctioning of member misconduct by the Professional Conduct division of CFA Institute. Regarding whether Gordon must disclose Wallsend’s internal investigation on his PCS, the correct answer is yes, thus in the first set of multiple choice answers, choice D is the right decision. Choice A is incorrect because even if it was an internal matter at Wallsend and no client was harmed, the PCS contains six questions and the second question requires a yes response if you have you been “the subject of any investigation (internal or external) in which your professional conduct or activities were questioned or at issue.” Choice B is also incorrect because the issue is not whether Gordon was justified in his actions or whether his employer had an ulterior motive, the issue is whether there was in fact an internal investigation by his employer involving his professional conduct or activities. And choice C is incorrect because although Gordon may disagree that the temporary volunteer work for his father constitutes a professional activity that needs to be reported, his employer obviously thought it was an activity that needed to be reported. Therefore, the Wallsend investigation needed to be disclosed regardless of its merits.
    Regarding the second set of multiple choice answers, choice D is again the right decision because this time, answers A, B, and C are all true. Under the CFA Institute Rules of Procedure, CFA Institute has jurisdiction over Gordon because he was a member and a charterholder at the time of the conduct. If Gordon refuses to cooperate, CFA Institute will proceed with a Summary Suspension, which will lead to a printed Notice of Disciplinary Action followed by a Revocation. Finally, if Gordon cooperates with the Professional Conduct investigation, he will be able to tell his side of the story and contribute evidence in support of his position.
    This scenario is based on a real case handled by the Professional Conduct division at CFA Institute. A Disciplinary Review Committee found that the member violated the following Standards: I(A): Knowledge of the Law, IV(A): Duty to Employers– Loyalty, and VI(A): Disclosure of Conflicts. The member in the actual case did in fact disclose the matter on the PCS and in a timely manner. Therefore, there was no violation of Standard VII(A): Conduct as Participants in CFA Institute Programs, which makes it a violation to misrepresent information on a PCS.

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     
  • Ethics in Practice: Expenses Billable or Not Billable? Case and Analysis

    28 Sep 2018
    0
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 40)

    Braun and his firm are hired by a regional government to serve as its financial adviser for issuing general obligation bonds. The municipality conducts several bond offerings over a number of years for constructing a number of municipal facilities, including a maximum security detention facility and two school buildings. In connection with the bond issues, Braun makes a number of trips to New York City to meet with ratings agencies in connection with these offerings. The trips are typically planned for a Monday or Friday so Braun can obtain the cheapest travel costs. Braun’s wife accompanies him on the trips and they typically spend the weekend either before or after the meetings in New York City to enjoy sporting events, theater performances, and museums. Braun often makes a number of flight and hotel changes after a trip is booked to accommodate meetings with other clients. Braun submits his trip expenses to his supervisor who deducts trip costs she believes are unrelated to the business purpose of the trip and submits the bills to the municipality for reimbursement. Which of the expenses below can most likely be billed to the client—for example, the government entity issuing the bonds?

    A. Braun’s accommodation and meal expenses for the weekend days because the travel rates are cheaper over a weekend.
    B. Tickets to the sporting and theater events, as long as they do not exceed an amount for reasonable business entertainment.
    C. Flight and hotel change fees that result from the regular course of Braun’s business activities.
    D. The travel and accommodation expenses for Braun’s wife if he discloses to his supervisor that she is making the trips and receives written approval for her travel. 

    ANALYSIS
    This case relates to CFA Institute Standard III(A): Loyalty, Prudence, and Care, which states that members have a duty of loyalty to their clients, must act for their clients benefit, and must place client interests before their own interests. Under this standard, investment professionals, including municipal security dealers, must not engage in any deceptive, dishonest, or unfair practice when handling client accounts. Charging excessive or lavish expenses for the personal benefit of the investment professional at the expense of the client can constitute a deceptive, dishonest, or unfair practice that violates Standard III(A). All of the expenses incurred by Braun can, in some way, be considered personal or business-related expenses that should not be charged to the municipality seeking to issue the bonds.
    In the context of conflicts of interests, the CFA Institute Code of Ethics and Standards of Professional Conduct allow members to accept or provide modest gifts and entertainment done in the ordinary course of business (a gift basket at the holidays from a vendor or to a client, for example). But that “ordinary course of business” does not allow investment professionals to charge clients for obviously extraneous entertainment expenses tangentially connected to a business meeting. Even if Braun notified and received permission from his employer for his spouse to accompany him on the business trip, that permission cannot extend to treating the client unfairly by charging the client for the spouse’s expenses. And although busy investment professionals may be forced, by other priorities, to change travel arrangements when a trip on behalf of a client has already been scheduled, additional expenses resulting in the change most likely must be borne by Braun as an overhead cost, not charged to the client. (Under some limited circumstances, those expenses might be charged to the client necessitating that the travel changes be made).
    It is possible that the savings in travel fees for booking a weekend travel schedule is greater than the additional accommodation and meal expense for Braun to stay in New York City the extra days, making the cost to the client lower. If this is the case, Braun would be meeting his duty of loyalty to the clients by choosing the most inexpensive travel schedule overall, thus limiting costs to the client. Under these circumstances, choice A describes the expenses most likely to be able to be billed to the client.
    This case is based on an enforcement action by the US Financial Industry Regulatory Authority (FINRA).

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Ethics in Practice: Sharing CFA® Exam Experience Is Fine, Right?

    20 Sep 2018
    25
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 39)

    Taveras is a CFA® charterholder who leads an exam preparation course given by his local CFA® Society for candidates in the CFA® Program. The society hosts a celebration for the students after the exam is over. During the celebration, a number of Taveras’s students describe their experience sitting for the exam. Most give their opinion about the relative difficulty of the exam given their expectations and some describe their surprise about areas of the curriculum that were not tested. Taveras asks his students their opinion on the most difficult questions on the exam. Taveras

    A. is free to pass along information about the exam to candidates in future prep classes to help prepare them for the exam.
    B. can provide the opinions of his students about the difficulty of the exam to candidates in future prep classes to emphasize the need to thoroughly prepare.
    C. can solicit information about the exam questions from students in an effort to improve the course for future prep classes.
    D. must not discuss the exam with students after it is over.

    ANALYSIS
    This case relates to CFA Institute Standard VII(A): Conduct as Participants in CFA Institute Programs, which states that candidates must not engage in any conduct that compromises the integrity, validity, or security of CFA Institute Programs. It is natural and expected that a group of colleagues who have collectively gone through the rigorous process of studying for and taking the CFA® exam will want to celebrate the accomplishment and discuss the exam after it is over. Candidates can discuss their exam experience with Taveras in general terms. But they cannot provide specific information about the exam regarding the questions or the general areas tested.
    And Taveras cannot pass along that information to future candidates and should not be soliciting information about specific questions or he would be in violation of the standard, which is designed to protect the integrity and security of future exams. The best answer is B because it is acceptable for Taveras to advise future prep classes that his previous students found the CFA exam to be more difficult than expected, so they should study the curriculum and prepare as much as possible.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Understanding the Investment Fundamentals of Airlines. A part of the series "Sector Analysis: A Framework for Investors"

    Joseph Wong    Alan Lok, CFA, Eunice Chu, Guruprasad Jambunathan
    15 Sep 2018
    12453
    525

    INTRODUCTION TO AIRLINE SECTOR ANALYSIS: A FRAMEWORK FOR INVESTORS

    The key to a company’s success depends on how well it executes its business model. This calls for optimising the allocation of limited resources to generate sustainable cash flows, for investing in new products, technologies, and services in responding to the wider competitive landscape or societal changes and mega trends, as well as for devising appropriate responses in the face of an evolving macroeconomic, regulatory, and political environment.  

    Different industries often require very different business models; and even within the same industry, the model that does add value to the business may vary somewhat from company to company.  

    To help investors undertake proper due diligence on a company, we have generated a framework of analysis designed to tease out the following: (1) whether the pertinent factors favour the firm in question; and (2) whether management is effective in executing its business model or value-generating strategies, while responding appropriately to its external environment.

    This framework is customised to specific sectors and incorporates interviews with professionals within those sectors. 

    AIRLINE INDUSTRY

    Perhaps it’s the thrill of voyaging to a far-flung, unfamiliar place. Maybe it’s the teasing prospect of a seat or—even better—an earnings upgrade. Whatever our reasons, we remain seduced and frustrated by the airline industry.

    In a 2007 letter to shareholders, Warren Buffett observed that: The worst sort of business is one that grows rapidly, requires significant capital to engender the growth, then earns little or no money—think airlines. Here a durable competitive advantage has proven elusive ever since the days of the Wright Brothers. Indeed, if a farsighted capitalist had been present at Kitty Hawk, he would have done his successors a huge favor by shooting Orville down.

    In the beginning, airlines were a must-have sovereign accessory, an essential strategic asset with monopoly powers that conferred national pride and international prestige. That said, packing a soft-power punch wasn’t cheap, and the industry was replete with loss-making state-owned companies.
    To the relief of investors (and taxpayers), economic sanity eventually prevailed and privatisation, together with the introduction of low-cost carriers (LCCs), helped to forge a
    more sensible trading environment.

    Old habits die hard, though, and aspects of a state-owned past haunt the airline industry. Intergovernmental deals dictate which airlines can fly and where they can land, and despite cheaper alternatives, national airlines still locate their hubs on their home turf. Industry pricing is also quixotic: a flight with two stopovers may be 40% cheaper than a shorter, more fuel-efficient, direct journey.
     
    To read more, download the full sector analysis for the airline industry with accompanying question bank below.

    This publication qualifies for 1.0 CE credits under the guidelines of the CFA Institute Continuing Education Program.
     
  • Ethics in Practice: Does Trade Execution Venue Matter?

    13 Sep 2018
    30
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 38)

    Eller is the head trader for a large, global investment adviser and broker/dealer firm. Eller executes the majority of customer orders internally but routes a significant portion of orders to other, outside broker/dealers for execution. Over a period of five years, Eller and the firm routed to outside venues 15.8 million orders that involved 5.4 billion shares worth more than $141 billion. Eller and the firm do not inform clients that trades are sometimes executed using outside venues. Eller’s actions are

    A. appropriate as long as Eller obtained best execution for the clients wherever the trade was executed.
    B. inappropriate because Eller is misleading clients regarding a material aspect of the investment process.
    C. appropriate because order execution venue diversification is an insignificant and routine aspect of the investment process.
    D. inappropriate because using outside broker/dealers to execute client trades could distort market prices.

    ANALYSIS
    The execution of trades is a material aspect of the investment process. Investors can use the execution venue information provided by the firm to make strategic choices about their broker/dealer relationships and tactical routing decisions. Investors may also not want their orders routed to outside venues because it exposes important information about their investment strategy. In addition, listing outside trade executions as having occurred within the firm gives the misleading impression that the firm is a more active trading center than it actually is. Using outside broker/dealers is not, in and of itself, unethical and does not necessarily lead to distorting the market. Eller’s ability to obtain best execution for these trades does not absolve him of misleading the firm’s clients regarding a material aspect of the investment process. By providing inaccurate information to clients about how their trades were executed, Eller violated Standard I(C): Misrepresentation, which prohibits CFA Institute members from making any misrepresentation relating to investment actions. The best choice is B.

    This case is based on a recent enforcement action and penalty by the US SEC.
     
    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Dual-Class Shares: The Good, The Bad, and The Ugly

    09 Sep 2018
    27135
    189

    A Review of the Debate Surrounding Dual-Class Shares and Their Emergence in Asia Pacific
  • Ethics in Practice: Longtime Customers Can Be Trusted, Right?

    06 Sep 2018
    15
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 37)
    Smith-Pelley is president and CEO of Capital First Investment Group (CFIG), an investment adviser that is a wholly owned subsidiary of Capital First Bank. CFIG uses the 25 branch offices of the bank for its business locations. One client of CFIG, a longtime bank customer and personally known by Smith-Pelley and the board members of the bank, opened an investment account at CFIG with the stated investment objective of income. Although the client did make a few investments over the course of a year, the client engaged in almost exclusively banking activity in the account that involved hundreds of transactions and consisted of $90 million in deposits and $84 million in withdrawals.
    The transactions included electronic transfers to and from individuals and entities located in bank secrecy havens or countries identified by the government as presenting a money laundering risk. In addition, Smith-Pelley understood the client to be engaged in a type of international business activity that presented an increased risk of transactions being tainted by corruption or bribery. But because of the client’s longstanding relationship with the bank, Smith-Pelley presumed that the transactions had a legitimate business purpose. Smith-Pelley accepted vague descriptions of the transactions as “for services provided,” “consulting fees,” or “commissions,” and he approved the daily anti money laundering (AML) reports (required by law when transactions trigger red flags of potentially suspicious activity) without further investigation. Smith-Pelley’s actions are

    A. appropriate because the non-securities activity in the client’s CFIG account was consistent with the type of transactions he had engaged in at the bank for many years.
    B. appropriate because Smith-Pelley is protecting the confidentiality of client information.
    C. appropriate because Smith-Pelley can rely on the clearing firm to report suspicious activity for the account.
    D. inappropriate. 

    ANALYSIS
    The facts presented in this case should have raised a number of questions for Smith-Pelley regarding the legitimacy of the client account at CFIG. The high velocity of money movement and low volume of investment activity was inconsistent with maintaining a securities account for the purpose of generating income, as stated in the account documents. The transactions in the account were high-risk transactions for money laundering activity and should have raised a greater level of scrutiny. Rather than investigate as required by law, Smith-Pelley did not ask questions because of the client’s long-standing relationship with the bank.
    Smith-Pelley cannot rely on the clearing firm to meet CFIG’s independent obligation to review the transactions for suspicious activity. Duty of loyalty to clients and preservation of confidentiality of client information cannot be used as a shield to allow clients to violate the law or otherwise damage the integrity or viability of global capital markets. Smith-Pelley’s actions violated Standard I(A): Knowledge of the Law which states that CFA Institute members and candidates must understand and comply with all applicable laws, rules, and regulations covering they professional activities. Smith-Pelley’s failure to adequately comply with the anti-money laundering requirements imposed by law violates this standard. The best choice is D.

    This case is based on a June 2018 enforcement action by the US Financial Industry Regulatory Authority.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • PRACTITIONER’S BRIEF: THE GOOD, THE BAD, AND THE MOSTLY BENIGN: RECONCILING HIGH-FREQUENCY TRADING’S MISUNDERSTOOD REPUTATION

    04 Sep 2018
    7171
    0

    This article qualifies for 0.5 CE under the guidelines of the CFA Institute Continuing Education Program. 
    We encourage CFA Institute members to login to the CE tracking tool to self-document these credits. 

    Based on the paper “Heterogeneity in How Algorithmic Traders Impact Institutional Trading Costs” by Tālis J. Putniņš and Joseph Barbara, available at https://www.arx.cfa/post/Heterogeneity-in-how-algorithmic-traders-impactinstitutional-trading-costs-4550.html

    This paper was recently recognized for excellence by the CFA Institute Asia-Pacific Research Exchange (ARX) at the 7th Annual Financial Research Network (FIRN) Conference. FIRN is a network of finance researchers and PhD students across Australia and New Zealand.

    Traversing the dense, tangled underbrush of an otherwise mostly explored section of securities terrain—the impact of automated, computerized trading—two researchers have demonstrated why it doesn’t pay to ignore the nuances of a complicated subject. Literally, it can cost billions to not heed the observations of authors Putniņš and Barbara, whose paper, “Heterogeneity in How Algorithmic Traders Impact Institutional Trading Costs,” is the subject of this ARX Practitioner’s Brief.

    The July 2017 paper is a wake-up call for institutional investors who may not be as vigilant as they think they are when it comes to getting best execution on block orders, if only because their defenses might well be focused on the wrong bad actors, that is, high-frequency traders (HFTs). HFTs, argue Putniņš (University of Technology Sydney) and Barbara (Australian Securities and Investments Commission), are unfairly stigmatized and singled out among computer-program–based or algorithmic traders (ATs) for driving up big-block trade implementation costs when in reality, according to an exhaustive study of trading data, their impact is negligible.

    In support of their argument, Putniņš and Barbara fully mapped and surveyed an algorithmic trading community comprising both HFTs, who transact a large number of orders at eye-blink speeds, and non-HFTs. In the process, they uncovered a variety of species and motives, some of which are even beneficial to institutions. On the surface, the ground the authors covered would seem cut and dried: grievances about HFTs have been voiced repeatedly, to the point where no one questions who in this narrative wears the black hat and who wears the white.

    What the authors sought to understand was whether the complaints against HFTs had merit. Was there more to the story than what generally has seeped into the mainstream media via books such as Michael Lewis’ Flash Boys?

    WHAT’S THE INVESTMENT ISSUE?
    The rise of electronic equity trading venues at the dawn of the 21st century emptied the trading floors, drove down execution costs, and opened the way for technological advancements, such as order-implementation speeds measured in milliseconds, that few could have ever imagined. By the time of the 2010 flash crash, the fundamental manner by which stocks were traded had radically changed. Although a few die-hard specialists were still clinging to their Big Board posts back on that spring day in 2010, the flash crash made it abundantly clear that algorithms had taken over. At the center of regulatory scrutiny post-flash crash was high-frequency trading, the best-known and most controversial form of algorithmic trading.

    With alpha scarce and trading venues fragmented, fund managers increasingly focused their energy on improving execution costs. For decades, the buy side railed against specialists front-running their institutional orders. Now, institutions face a new predator on their blocks: HFTs. These automated strategies account for more than half of the total volume during any given session, and some institutional investors claim they impede liquidity.

    As a result of concerns about being preyed upon, institutional investors are forced to break large orders into smaller pieces that need to be traded across multiple venues, making them more susceptible to HFTs. In turn, new liquidity pools and networks have been created to provide a safe space. Yet, as Putniņš and Barbara point out, some studies show that, at best, high-frequency trading and algorithmic trading lower spreads and improve price discovery, and at worst, represented a benign force. So are HFTs good, bad, benign, or what?

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    Putniņš and Barbara created a data cross-section reenacting trading of the largest 200 Australian equities (ASX 200 Index constituents) over a 13-month period (1 September 2014 through 30 September 2015), amounting to 273 trading days.

    Using unique trader-identified regulatory audit-trail data, they identified a subset of 187 of the most active nondirectional traders (AT/HFT) and measured their activity (roughly 25% of Australian volume on any given day) in terms of the impact on the execution costs for institutions, which control about 80% of Australian large-cap stocks. “Origin of order” identifiers, collected by the Australian Securities and Investments Commission, allowed the authors to reassemble smaller (child) orders back into larger (parent) ones.

    Upon close inspection, the AT/HFT gang of 187 proved decidedly heterogeneous. Putniņš and Barbara categorized these traders across a spectrum, ranging from those who drove costs up the highest (toxic) to those who lowered them the most (beneficial).

    WHAT ARE THE FINDINGS?
    The 12 most toxic traders increased the average order-implementation shortfall cost by 10 basis points or nearly double the cost without the harmful behavior. At the same time, the 14 most beneficial traders systematically decreased costs, effectively, in aggregate, countering the negative impact. However, this offset in aggregate would not have come as any consolation to those individual buyers and sellers specifically impacted by the toxic traders. “An investor that disproportionately interacts with harmful AT/HFT faced higher costs,” concluded the authors.

    Interestingly, HFTs were no more likely to be toxic than non-HFTs. And even those ATs/HFTs who drove up costs may have done so unintentionally, merely by trading on the most common entry and exit signals, behavior that could be described not so much as exploitative as lemming-like.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    First, for buy-side asset managers, it bears underscoring that execution matters. Potentially large cost savings can be realized from trading in a manner that avoids overexposure to toxic counterparties. Such savings could mean the difference between a fund that performs well and one that underperforms.

    Second, in terms of execution strategy, more caution should be exercised in smaller stocks, where toxic traders tend to be more active.

    Third, effort spent avoiding HFTs may be in vain because many HFTs are beneficial and can reduce institutional execution costs. At the same time, toxic non-HFTs should be avoided if one wants to minimize execution costs.

    Finally, from a regulatory perspective, the empirical measurement tools featured in this research could be used to better monitor markets and identify predatory trading behavior.

    ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ 

    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.
  • Ethics in Practice: Tell Potential Client of Staff Change?

    02 Sep 2018
    28
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 36)

    Andersen is the President and CEO of an asset management firm. Andersen and other senior investment managers of his firm make an in-person pitch to manage the investments of a large pension plan. In response to a request from the pension plan, Andersen lists the key personnel that would be involved in offering these services. But while awaiting for the outcome of the evaluation, one of the key personnel that Andersen identified and who was part of making the in-person presentation to the plan leaves the firm. Andersen should

    A. Hire a competent replacement for the person who left and then inform the pension plan of the change.
    B. Wait to determine whether the firm wins the business of the pension plan before informing them of the change in staff.
    C. Immediately inform the pension plan that one of the key personnel has left the firm.
    D. Do nothing because the pension plan is hiring the asset management firm not an individual.

    ANALYSIS
    This case relates to CFA Institute Standard I(C): Misrepresentation, which prohibits any knowing misrepresentation relating to professional activities. In this situation, after making the pitch for the investment management business of the pension fund, there is turnover in Andersen’s investment management staff. Andersen has identified the person leaving as a key employee and as a member of the team that made the initial presentation to the pension plan. From Andersen’s perspective, he surely has confidence in the abilities of the firm as a whole and will likely replace the person leaving with a competent professional with similar experience and talents so that there is a seamless transition in services to clients.
    Nevertheless, the pension plan is clearly concerned about the particular personnel involved in managing its assets because they asked for that information, which makes C the best response. If this was a junior employee, a staff member who had limited effect on the investment decision-making process, or someone who was not listed as a key employee or who was not part of the team making the presentation, then Andersen may not have to provide an update to the pension plan. But given the circumstances outlined in the case, Anderson must tell the pension plan about the departure of a key staff member to avoid a misrepresentation. Waiting until the replacement is found or until the pension plan makes a hiring decision is too late.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Ethics in Practice: Using Info for Fund and Personal Accounts OK?

    23 Aug 2018
    28
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 35)

    Eaton runs a hedge fund that holds the commercial paper (CP) of a listed company. The fund also has a large investment in the equities of that company. Upon maturity of the CP, the company fails to honor the CP and refuses to communicate with Eaton. Based on these facts combined with further research indicating that the company may be having liquidity issues, Eaton sells the fund’s equity position. Eaton also shorts the company’s stock in his personal account. Select one of the following answers and then join the conversation to explain your choice.

    A. Eaton violated the Code and Standards by selling the fund’s equity position in the company.
    B. Eaton violated the Code and Standards by shorting the company’s stock in his personal account.
    C. Eaton violated the Code and Standards by both selling the fund’s equity position in the company and shorting the company’s stock in his personal account.
    D. Eaton did not violate the Code and Standards.

    ANALYSIS
    This case involves CFA Insitute Standard II(A): Material Nonpublic Information, which prohibits trading or causing others to trade on material nonpublic information. Information is considered “material” if it is likely to affect the price of a security. It is considered “nonpublic” if is not widely disseminated. But under the mosaic theory, those who work to uncover and piece together nonmaterial and/or public information to form an opinion about a security can trade based on significant conclusions derived from that analysis. In this case, the fact that a company has defaulted on its commercial paper commitment would likely be a material fact that a reasonable investor would like to know. It is also likely that information regarding the default, at least initially, is not publicly known. The CP is privately traded, and this information may be available only to the holders of the CP.

    Eaton becomes aware of the default because his hedge fund owns the CP, and thus he becomes immediately aware of the default when it occurs. The fund is in a unique position to be the first to be aware of the cash flow problems of the company. Does the fund have to wait to trade on the information until it becomes publicly known? This situation is similar to the case in which a customer orders goods from a manufacturer who does not deliver on time. The customer is in the best position to know that the manufacturer defaulted on the contract and thus have an early understanding of the difficulties the company is having. The informational advantage arises from a learned fact as a result of the proximity to the company, not because of any inside information. Intrepid analysts are likely to discover the information eventually. Eaton’s hedge fund is the first to do so given their relationship with the company. But even if Eaton’s hedge fund is able to trade on the information, Eaton’s investment action for his personal account is likely in violation of the standards because he is taking inside information that is confidential to the hedge fund and using for personal gain. The best choice in this case is B.
    This case was submitted to CFA Institute by an “Ethics in Practice” participant.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Ethics in Practice: Doing Too Much to Make Investments a Success

    09 Aug 2018
    16
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 33)

    Corrales manages a hedge fund that seeks out investment opportunities in developing markets. Using assets of the fund’s investors, the fund hires local companies to serve as “sub-advisers” to explore and obtain promising investment opportunities and navigate local laws and regulation. The sub-advisers often have very limited experience as financial consultants or advisers but do have close relationships and connections with local high-ranking government officials. The payments made by Corrales, through the sub-advisers, often cover substantial “deal fees” and other expenses that facilitate governmental support of each investment. Corrales does not require the local business partners to provide details of their activities or what specific expenses are covered by the fees. Corrales reports these expenditures to fund investors as operating expenses necessary to the success of the investment. Over several years, the hedge fund is very successful producing an 18% annual rate of return for its investors. Did Corrales actions violate the Code and Standards?

    A. Yes.
    B. No because it is acceptable to hire sub-advisers and business consultants to assist in procuring investment opportunities and managing specialized assets.
    C. No because the payments to the sub-advisers represent legitimate expenses to ensure the success of investments and protect the interest of investors.
    D. No, as long as the sub-advisers provide more detail about the nature and purpose of the payments and this information is disclosed to the hedge fund investors. 

    ANALYSIS
    To better serve clients, investment professionals may choose to delegate to third parties work that requires particular specialization, knowledge, or expertise. For example, an investment adviser may hire sub-advisers to handle a particular strategy or investment style outside the scope of the adviser’s ability or experience. A global adviser may hire a sub-adviser to manage an asset allocation invested in a particular market, and the payments to the sub-adviser would be legitimate investment expenses that could properly be passed on to investors in the fund.
    But the facts of this case indicate that Corrales is not hiring a true sub-adviser but essentially paying locally connected officials to secure access to investment deals to ensure the success of the fund’s investments. The “sub-advisers” have no financial experience but are close to the government officials, and the “deal fees” are not supported by any documentation that details legitimate investment expenses. The “operating expenses” charged by Corrales to the fund are most likely funding corrupt transactions and bribes through local intermediaries. This practice violates multiple standards:
    • I(A): Knowledge of the Law because the conduct would violate any type of anti-bribery laws.
    • I(C): Misrepresentation because he is improperly labeling the expenditures as investment fees.
    • V(A): Diligence and Reasonable Basis because no reasonable and adequate basis for the “investment” action exists.
    • V(C): Record Retention because no appropriate records are being kept to support the action.
    • VII(A): Conduct as Participants in CFA Institute Programs because assuming Corrales is a charterholder, his conduct compromises the integrity to the CFA designation.
    This case is based on a US SEC enforcement action from 2017.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • CFA Societies Asia-Pacific Ethics Survey 2018

    06 Aug 2018
    866
    27

    In March 2018, in collaboration with CFA Institute, CFA Societies in Asia-Pacific surveyed their members to uncover common ethical issues seen in the investment industry, and to identify what resources could support better ethical decision making and a more ethical firm culture.

    The attached reports are the findings from the survey.
  • Corporate Governance for Asian Publicly Listed Family-Controlled Firms - Full Report

    Tom Berry    Tony Tan, DBA, CFA, Fianna Jurdant
    06 Aug 2018
    5511
    117

    There is a gap in the literature concerning regulatory responses and approaches to corporate governance of controlled family firms. This report reviews the literature to develop an overview of the economic landscape of publicly listed family firms in Asia and to demonstrate the importance of these entities to the region and beyond. Another objective is to illustrate the challenges that confront policymakers in developing corporate governance policies relevant to publicly listed family firms. Discussion in the report indicates two significant hurdles for policymakers. First, there is a lack of consensus on a universal definition of a publicly listed family firm. Second, publicly listed family firms should not be perceived as a homogeneous group over which a “one size fits all” corporate governance blanket can be cast.

    The focus of the report then shifts to highlighting how an effective corporate governance system can improve performance and create value by reducing the cost of equity and reducing capital waste. The discussion examines how properties of publicly listed family firms can enhance shareholder wealth or lead to the expropriation of wealth from minority owners. The final objective of the study is to report key observations from a series of case studies spanning 14 Asian economies that cover a range of corporate governance issues central to publicly listed family firms. The case studies provide insight into current practices of Asian publicly listed family firms that may require the attention of policymakers. The issues raised in this report provide the initial building blocks for developing a more extensive road map to underpin a comprehensive analysis. Findings from this analysis can provide the foundation for evidence-based policy recommendations specific to family firms, which are a significant aspect of the Asian economic landscape and a key to the region’s current and future prosperity.

    This article qualifies for 0.5 CE under the guidelines of the CFA Institute Continuing Education Program. 
    We encourage CFA Institute members to login to the CE tracking tool to self-document these credits.

     
  • PRACTITIONER’S BRIEF: CYCLE SPOTTING—HOW AND WHEN MACRO SIGNALS CAN PREDICT CURRENCY RETURNS

    Joseph Wong    Rich Blake, Brindha Gunasingham, PhD, CFA
    30 Jul 2018
    20828
    0

    Based on the paper “Business Cycles and the Cross-Section of Currency Returns” by Steven J. Riddiough and Lucio Sarno, available at https://www.arx.cfa/post/Business-Cycles-and-the-Cross-Section-of-Currency-Returns-3883.html

    This paper was recently recognized as the CFA Institute Asia-Pacific Research Exchange Best Paper at the 7th Annual Financial Research Network (FIRN) Conference. FIRN is a network of finance researchers and PhD students across Australia and New Zealand.


    Originally published in the spring of 2017 and recently updated, “Business Cycles and the Cross-Section of Currency Returns,” by co-authors Steven J. Riddiough (University of Melbourne) and Lucio Sarno (Cass Business School and CEPR), makes a case for a genuine connection between currency returns and the waxing and waning of countries’ business cycles worldwide. According to Riddiough and Sarno, excess returns can be gleaned—and quantified in a risk-compensation context—by buying and selling a crosssection of currencies relative to the strengths or weaknesses of their country’s economic cycles, a finding that flouts decades of research suggesting the absence of a link between
    macroeconomic variables and currency fluctuations.

    Among the drivers of such a strategy is the use of the spot exchange rate, demonstrably more 
    predictable than interest rate moves. Also crucial to understanding the source of returns is the observation that the most robust currency appreciations occur when cross-border business cycles are diverging. Although buying the currencies of strong economies and selling the currencies of weaker ones might seem intuitive, there is no shortage of real or theoretical headwinds facing anyone who might attempt it. The spot market is notoriously and exceptionally volatile, and the nature of forecasting business cycles represents its own deeply explored yet only partially understood pursuit. Empirically, Riddiough and Sarno have tilled new ground.

    WHAT’S THE INVESTMENT ISSUE?
    In their paper, Riddiough and Sarno refer to academic research that supports the notion of a strange disconnect between macro fundamentals and currency exchange rate moves, particularly in short (one month) and intermediate (one year) time horizons. Why wouldn’t a country’s economic growth rate underpin—or indeed, help predict—the fluctuation of its currency, just as a company’s fundamentals would have an influence on share price? With this counterintuitive reasoning as a talisman, Riddiough and Sarno embark on a journey to resolve what others before them have found so puzzling. Employing that broadest measure of macro conditions—the business cycle—they examine how this basic concept gets measured in the first place, whether it even can be measured, and, if so, whether there is some way to harness it for alpha production.

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    Step one for Riddiough and Sarno was to determine how best to take the extensive data from a cross-section of 27 countries over three decades and come up with a measure of when each country’s business cycles started, when they halted, and how long they lasted. Even arriving at a commonly accepted measure for business cycles—the so-called “output gap,” which is a country’s percentage deviation from its long-term trend—proved challenging. Leaving aside the not-uncommon idea that cycles are too mercurial to pin down, there was the vexing conundrum of sifting through and amalgamating various output-gap measurement techniques (quadratic data-spanning filters versus linear counterparts). The authors needed to produce a drop cloth of macroeconomic conditions
    upon which to portray a currency trading strategy conducted in a long-term portfolio setting. By running numbers through the prism of a series of five simulated portfolios (set up in contrast, with degrees of weak and strong currencies), the authors were able to take into consideration such concepts as relative performance, risk compensation, and diversification benefits that could be associated with currency returns. In other words, this was no carry trade. The question then became, “If business cycles could predict currency returns in a portfolio setting, could an investor capitalize?”

    WHAT ARE THE FINDINGS?
    Spot exchange rate predictability was evident in both a cross-section and a time series analysis of the countries’ business cycles. In summary, buying and selling based on business cycles not only generated high returns but the outperformance was not correlated with the most common currency strategies, such as long Australian dollar/short Japanese yen. According to the authors, “Currencies issued by strong economies (high output gaps) command higher expected returns, which compensates more risk-averse investors in weak economies.” The authors go on to say, “Our research suggests a strong predictive link from business cycles to currency returns, and raises questions as to why our results differ from those in the long-standing international macroeconomics literature.”

    One reason may lie in the use of spot rate moves to extract excess return, and not via commonly used derivatives. In the aforementioned carry example, the trade would remain static; those long and short positions wouldn’t change over time even though business cycles or output gap differentials would.

    “An output-gap investor would have taken long and short positions in both the Australian dollar and Japanese yen as their relative business cycles fluctuated,” the authors claim. Returns, they emphasize, mainly come from the divergence in business cycles. Using data and a rigorous process, investors can define cycles and exploit their turns.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    Where once investors had only a few “risk factors” to choose from—growth, momentum, size, and value—now they have dozens and must add business cycles to the growing list. Because an output-gap strategy has such low correlation with other currency strategies, investors who once only considered currency exposure as something to be hedged might be open to using it as a source of alpha generation, particularly at a time when large segments of the stock and bond markets are reaching boiling points and perhaps pointing toward the start of a new set of intraglobal cycles to come.

    “At the heart of almost any model of currency returns is a tight link between the macroeconomy and exchange rate returns,” Riddiough explained recently in an email. “But it’s taken a long time to pin down this relationship empirically. In this paper, we’ve demonstrated that the link is real, spot returns are predictable, and the resulting investment strategy is unlike any we commonly employ in currency markets.”

    Riddiough and Sarno have found a relationship between macro fundamentals and exchange rates—a unique, underexploited source of returns. The analysis has been completed using data from markets around the world, including Australia, Japan, and New Zealand, demonstrating that this is not a phenomenon confined to the United States or even the Eurozone. Global and Asia Pacific investors, hungry for diversification, should take note.


    ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.

    This article qualifies for 1 CE under the guidelines of the CFA Institute Continuing Education Program. 
    We encourage CFA Institute members to login to the CE tracking tool to self-document these credits.

     
  • Leviathan Inc. and Corporate Environmental Engagement (Video Presentation)

    25 Jul 2018
    5421
    0

    State-owned enterprises (SOEs) have been criticized for poor governance and questionable efficiency. In a recent paper titled ‘Leviathan Inc. and Corporate Environmental Engagement,’ Dr. Pedro Matos from the Darden School of Business, University of Virginia, and his colleagues from the University of Hong Kong and Singapore Management University conducted an international study of the impact of state ownership on a firm’s engagement in environmental, social, and governance (ESG) issues. 

    There has been significant debate on the effects of ESG issues on shareholder value. In this paper, it was found that SOEs are, in fact, more engaged in environmental issues and, more importantly, this engagement does not come at the expense of shareholder value. Furthermore, SOEs are also more engaged in social issues, but they do not reveal better corporate governance performance.


    This is a recording of the presentation hosted by CFA Institute, HKSFA, ACCA, FSDC, HKIRA, and HKU SPACE Executive Academy on June 6, 2017 at HKU SPACE Po Leung Kuk Stanley Ho Community College in Hong Kong.
     
  • Ethics in Practice: Comment on Facebook Your Responsibility?

    19 Jul 2018
    18
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 30)


    Wieters runs an investment advisory firm that specializes in equity only asset management. For clients and prospective clients seeking to follow a balanced or fixed-income strategy, Wieters posts on her firm’s Facebook page the names of a number of firms that she is familiar with that provide these services. One of the firms replies in the comment section of the post, providing basic performance history information and claiming compliance with the GIPS® standards. Unknown to Wieters, the performance history is misleading and the claim of compliance with the GIPS standards is inaccurate. Has Wieters violated the CFA Institute Code and Standards?

    A. Yes because Wieters must exercise diligence and have a reasonable and adequate basis for every statement made on her firm’s Facebook page.
    B. No as long as Wieters does not receive referral fees from the adviser for including the adviser’s information in the original post.
    C. Yes if Wieters “likes” the post by the adviser containing the erroneous information.
    D. No because Wieters is not responsible for any information posted by third parties in the comment sections of her firm’s Facebook page. 

    ANALYSIS
    This case involves CFA Institute Standard I(C): Misrepresentation, which states that CFA Institute members and candidates must not knowingly make any misrepresentation relating to investment analysis, recommendations, or actions. Wieters has the responsibility under Standard I(C) to make sure that any professional communications she puts out are not misleading, whether or not the statements are verbal, written, or posted on social media. In this case, although the misleading statements are posted on the social media platform that Wieters controls, the misleading statement is clearly made by someone else because it is in a comment written by another person.
    Therefore, Wieters may not be considered responsible under the CFA Institute Code and Standards for verifying the truthfulness of others information. In providing a list of potential service providers for a style of investment she does not provide, it is not clear whether she is recommending the services of those firms in her post. A recommendation of services would be a step that moves Wieters closer to endorsing the misleading information rather than passively allowing comments by others on her social media account. The payment of referral fees (or no payment of referral fees) is not relevant to the misrepresentation issue. Wieters would be in danger of violating the Code and Standards if she knows the adviser’s information to be false and allows it to remain on her Facebook page. It is, therefore, not the case that Wieters is never responsible of any information posted by another person on her page. (In this scenario, the facts are clear that she does not know that the performance history and claim of compliance with the GIPS standards are false.)
    Answer C is actually the best answer because if Wieters “likes” the adviser’s comment or responds in another way that indicates she explicitly or implicitly endorses, adopts, or approves the content of the comment, that would effectively be a communication made by Wieters. She would then become responsible for the content. By “liking” the adviser’s misleading performance information, Wieters becomes the author of a separate and distinct communication that includes misleading statements. To be safe, best practice would be for Wieters to remove from her Facebook page any potentially problematic or unverified statements or comments made by others until she can determine the veracity of those statements.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
     
  • Ethics in Practice: Compliant with Record Retention Standard?

    12 Jul 2018
    44
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 27)
    Ianetta is the chief compliance officer for Rocky Mountain Investments (RMI). He is responsible for establishing and maintaining appropriate regulatory compliance policies, including a document retention policy. RMI’s policies require retaining and archiving the emails of the firm’s personnel. RMI has rapidly expanded over the years, and Ianetta determines that the firm should move to a new and less expensive email archive provider. But during the transition, several thousand emails are temporarily inaccessible. In addition, the new system does not capture emails from accounts hosted on an external server, and it does not archive emails sent from a third-party provider’s application (“cloud” email). Do Ianetta’s actions comply with the CFA Institute Code and Standards?
    1. No because the record retention system Ianetta implemented is inadequate.
    2. Yes, as long as the inaccessible emails are able to be recovered.
    3. Yes because emails sent and received outside RMI’s email system are not required to be retained.
    4. Yes, if the emails are more than five years old.
    ANALYSIS
    The issue in the case involves record keeping. CFA Institute Standard V(C): Record Retention states that CFA Institute members must “develop and maintain appropriate records to support their investment analyses, recommendations, actions, and other investment-related communications with clients and prospective clients.” Emails to and from firm personnel are important records of the firm’s business. As the firms’ chief compliance officer, Ianetta has the responsibility to develop policies and procedures to meet the record retention requirements for RMI. The emails of firm personnel must be preserved regardless of what email service or platform is used to generate them. The requirement is not limited to only emails sent and received through the firm’s internal server.
    Guidance for Standard V(C) recommends that records be retained up to seven years in the absence of regulatory requirements. It is not clear what regulatory regime RMI is subject to if any, but best practice would be to keep seven years of the email records. The facts state that during the transition to the new email archive service provider, the records (emails) were temporarily unavailable, although it is not clear for how long. But even if the records are not available for a short time, it would be unacceptable. Lack of access to records for any amount of time could certainly cause issues with clients and regulators who may be wanting to review emails to substantiate investment recommendations, confirm communications, examine client/adviser discussions, and so on. Therefore, by not adequately fulfilling his responsibility to maintain appropriate records for RMI, Ianetta is in violation of Standard V(C), so the best answer is A.
    The facts of this case are based on a 2013 enforcement action by the US Financial Industry Regulatory Authority.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Ethics in Practice: Valuing Assets and Calculating Fees

    12 Jul 2018
    51
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 29)

    Maalouf works in a branch office for a large wealth management firm. The firm’s fees are based on a percentage of the value of the assets managed in each client account. The firm has a standard method for valuing assets and calculating fees for all of its clients, which is disclosed to each client at the outset of the relationship. Over time, the firm transitions to (1) using the market value of client assets at the end of the billing cycle instead of the average daily balance of the account; (2) including assets in the fee calculation, such as cash or cash equivalents, that were previously excluded; and 3) charging clients for a full billing period rather than prorating fees for clients that start or terminate accounts mid billing period. Maalouf

    A. cannot use end-of-cycle valuations, include cash equivalents, or charge full fees for a full billing cycle for partial cycle accounts.
    B.can change the valuation and fee calculation methodology as long as actual fees charged to clients are lower.
    C.must notify clients of the changes in the valuation and fee calculation methods.
    D.cannot change fundamental elements of the client relationship, such as valuation and fee calculation methodology, once it is disclosed to the client.

    ANALYSIS
    This case involves Standard V(B): Communication with Clients and Prospective Clients, which requires CFA Institute members and candidates to disclose to clients the basic format and general principles of the investment process. Advisory fees are a critical part of the investment management process. Developing and maintaining clear, frequent, and thorough communication with clients allows them to make well-informed decisions about their investments, including about whether to engage or retain an investment adviser. Any changes to the methods for valuing assets or calculating fees that are different from the process set out and agreed to by the client must be disclosed. It is improper to change fee calculation methodology without disclosure even if it results in lower fees. Using end-of-cycle valuations, including cash equivalents, or not pro-rating fees for newly acquired or terminated clients are possible methods for calculating fees as long as those policies are disclosed and agreed to by the client. It is also permissible to change valuation and methodology and fee calculation policies overtime for existing accounts. Maalouf and his firm can negotiate with their clients about changing the methods for calculating fees that were originally disclosed. So, the best answer is C, Maalouf must notify his clients of the changes in the valuation and fee calculation methods.
    This case is based on a recent US SEC Office of Compliance Inspections and Examinations Risk Alert.

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Understanding the Investment Fundamentals of the Property Development Sector. A part of the series "Sector Analysis: A Framework for Investors"

    Joseph Wong    Alan Lok, CFA, Eunice Chu, Guruprasad Jambunathan
    10 Jul 2018
    2032
    413

    INTRODUCTION TO SECTOR ANALYSIS: A FRAMEWORK FOR INVESTORS

    The key to a company’s success depends on how well it executes its business model. This calls for optimising the allocation of limited resources to generate sustainable cash flows, for investing in new products, technologies, and services in responding to the wider competitive landscape or societal changes and mega trends, as well as for devising appropriate responses in the face of an evolving macroeconomic, regulatory, and political environment.  

    Different industries often require very different business models; and even within the same industry, the model that does add value to the business may vary somewhat from company to company.  

    To help investors undertake proper due diligence on a company, we have generated a framework of analysis designed to tease out the following: (1) whether the pertinent factors favour the firm in question; and (2) whether management is effective in executing its business model or value-generating strategies, while responding appropriately to its external environment.

    This framework is customised to specific sectors and incorporates interviews with professionals within those sectors. 

     
    THE PROPERTY DEVELOPMENT SECTOR - LUMPS, BUMPS AND SLUMPS

    In a complex and fast-moving financial world, it’s comforting to know that some sectors remain relatively easy to understand. A case in point is property development. The property developer acquires land and an architect then designs the building and obtains planning approval before passing the baton to the construction team. 

    At this stage, the developer could choose to undertake marketing and sales before construction is complete or wait until the last brick falls into place. Either way, you can then calculate the gross development value (GDV) of a project or profit from the project, of which the sum of GDV, excluding the developer’s liabilities, will yield the value of the development.

    To read more, download the full sector analysis for the Property Development Sector with accompanying question bank below.

    This publication qualifies for 1.0 CE credits under the guidelines of the CFA Institute Continuing Education Program.
  • Ethics in Practice: Good Advice to Move Retirement Funds?

    04 Jul 2018
    22
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 28)

    Urquhart is a financial planner for AKC, which runs a large network of financial planners. AKC compensates its planners based on the number of sales of AKC products. Urquhart advises a husband and wife to roll their retirement funds, which combined are worth $125,000, from one service provider into a single AKC investment fund that follows a large-cap equity strategy. Urquhart discloses to the couple that they will have to pay a penalty totaling $30,000 for closing their accounts, but they will make up this loss with better investment returns from the AKC product. Urquart’s actions are

    A. acceptable if the AKC product is suitable for the couple.
    B. unacceptable because he is promising a specific rate of return.
    C. acceptable because he fully disclosed the negative consequences of closing their accounts.
    D. unacceptable unless the performance history of the AKC product supports his statement about future returns.

    ANALYSIS
    This case involves CFA Institute Standard I(C): Misrepresentation, which states that CFA Institute members and candidates must not knowingly make any misrepresentation related to investment analysis, recommendations, or actions. This standard prohibits making any statements promising or guaranteeing a specific rate of return on volatile investments. Even if the AKC product is suitable for the couple, it is an equity-based investment that is inherently volatile. Urquhart cannot make promises about future returns, even if the historical performance return would have reached the performance goal. Although he fully discloses the negative consequences of transferring their assets to the AKC product, that disclosure does not mitigate the inappropriate statement about future expected returns. Therefore, the best answer is B. As an aside, this case also raises questions about whether advising the couple to take such a significant loss in their retirement savings would be in their best interest and whether Urquhart’s independence and objectivity is compromised because he is influenced to make such a recommendation by the compensation scheme of his employer.

    This case is based on details coming out of the current regulatory inquiry into the practices of financial services company AMP in Australia.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
     
  • Ethics in Practice: Conflict of Interest or Not?

    22 Jun 2018
    1
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 26)

    Joyce works as a research analyst at private equity firm. Her personal investments are managed by her brother Neville, who works as a financial adviser. One day over lunch, Joyce’s colleague, Roger, mentions to Joyce that he is looking for a financial adviser and asks Joyce who she uses to manage her investments. Joyce tells Roger that Neville is her investment adviser, but she does not disclose that Neville is her brother. After meeting with Neville, Roger hires him to manage his considerable assets. Neville regularly pays a €5,000 referral fee to his current clients who recommend new clients to his firm. Neville offers to pay his sister the €5,000 referral fee. Joyce was unaware of the potential referral fee and refuses to accept the money from her brother given their relationship. Did either Joyce or Neville violate the CFA Institute Standards of Professional Conduct?

    A. Neither Joyce or Neville violated the CFA Institute Standards of Professional Conduct.
    B. Only Joyce violated the CFA Institute Standards of Professional Conduct.
    C. Only Neville violated the CFA Institute Standards of Professional Conduct.
    D. Both Joyce and Neville violated the CFA Institute Standards of Professional Conduct.

    ANALYSIS
    This case potentially involves the CFA Institute standards related to conflicts of interest. Standard VI(A): Disclosure of Conflicts requires members to “make full and fair disclosure of all matters that could reasonably be expected to impair their independence and objectivity or interfere with their duties to their clients, prospective clients, and employer.” Does either Joyce of Neville have a conflict they need to disclose to Roger?
    It is possible that Joyce is recommending Neville to Roger because he is a close family relation and not solely because of his abilities as an asset manager. But she could also not want Roger to feel pressured to hire Neville just because he is her brother. Also, the discussion between Joyce and Roger is personal rather than professional in nature. Roger is not a client or potential client for Joyce, but rather they are just colleagues having a friendly discussion over lunch. Roger is not seeking investment advice. But even though Joyce’s actions in this particular scenario do not violate Standard IV(A), it may be prudent for Joyce to make such a disclosure at the outset. If Roger learns of the brother–sister relationship, he may feel that Joyce withheld important information from him. She could potentially still find herself on the receiving end of a complaint, especially if things later sour between Neville and Roger. One would hope that, in the interests of transparency and to promote her personal relationship with a colleague, Joyce would let Roger know that Neville is her brother.
    As for Neville, there is no required disclosure to Roger under Standard VI(A) because the fact that Roger was referred to Neville by his sister does not present a discernible conflict on the part of Neville. Another thing to look at is Standard VI(C): Disclosure of Conflicts – Referral Fees. This standard requires members “to disclose to their employer, clients, and prospective clients any compensation, consideration, or benefit received from or paid to others for the recommendation for products of services.” The facts indicate that Neville had a referral fee arrangement in place for his current clients when they referred his services to others. But in this particular case, Neville’s sister Joyce was unaware of the potential payment and turned down the referral fee when it was offered. So, Joyce was not influenced by a potential referral fee arrangement. If Neville had paid the referral fee to Joyce, he would have had to disclose this fact to Roger. But because no fee was paid, Standard VI(C) is not implicated.
    As a result, the best answer is choice A, which is that neither Joyce nor Neville violated the CFA Institute Standards of Professional Conduct.

    Facts for this case were supplied by Tanuj Kholsa, CFA, CAIA.

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org
  • Understanding the Investment Fundamentals of Real Estate Investment Trusts (REITS). A part of the series "Sector Analysis: A Framework for Investors"

    Joseph Wong    Alan Lok, CFA, Eunice Chu, Guruprasad Jambunathan
    13 Jun 2018
    17941
    465

    INTRODUCTION TO SECTOR ANALYSIS: A FRAMEWORK FOR INVESTORS

    The key to a company’s success depends on how well it executes its business model. This calls for optimising the allocation of limited resources to generate sustainable cash flows, for investing in new products, technologies, and services in responding to the wider competitive landscape or societal changes and mega trends, as well as for devising appropriate responses in the face of an evolving macroeconomic, regulatory, and political environment.  

    Different industries often require very different business models; and even within the same industry, the model that does add value to the business may vary somewhat from company to company.  

    To help investors undertake proper due diligence on a company, we have generated a framework of analysis designed to tease out the following: (1) whether the pertinent factors favour the firm in question; and (2) whether management is effective in executing its business model or value-generating strategies, while responding appropriately to its external environment.

    This framework is customised to specific sectors and incorporates interviews with professionals within those sectors. 
     
    REAL ESTATE INVESTMENT TRUST (REIT) SECTOR 

    REITs are vehicles that own and typically operate a portfolio of income-yielding real estate assets. Modelled along the lines of unit trusts, REITs allow for funds to be pooled from a group of investors. Such a structure provides retail investors with several advantages: a low-hurdle of entry and exposure to a diversified pool of real estate assets with a high level of liquidity, which would not otherwise be possible with direct investing. 

    Most REITs are publicly listed, and declare above 90% of their earnings as dividends to fulfil certain benefits accorded to REITs by the local securities regulator. As such, REITs provide a stable source of recurrent income, which serves as a yield play rather than an investment avenue for reaping capital gains. We believe an effective and accurate fundamental analysis can help the retail investor determine if the recurrent income is stable and/or trending upwards over the long term. 

    A REIT generally focuses on a specific category of property for investments.  Some common classifications of REITs include: Office & Commercial REITs, Retail REITs, and Industrial REITs.

    To read more, download the full sector analysis for REITs with accompanying question bank below.

    This publication qualifies for 1.0 CE credits under the guidelines of the CFA Institute Continuing Education Program.
     
  • Ethics in Practice: Material and Nonpublic Info or Not? 

    11 Jun 2018
    28
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 25)


    Robles, a fund manager, visits the main manufacturing plant of a large international cement company. During his visit, the management of the company discloses that the company has purchased additional land and resources at this location that can easily be put to use for low-cost expansion in the future. Management claims that the expansion would result in a capital cost per unit of production nearly 30% cheaper than industry norms. Management tells Robles “confidentially” that the company may consider expansion when the global economic climate improves sufficiently to boost demand for their product. Based on this information, Robles buys stock in the cement company for the fund he manages. Did Robles act unethically? Choose your response and join the conversation to explain your choice.

                         A. Yes because Robles traded based on material nonpublic information.
                         B. No because Robles did not trade on material nonpublic information

    ANALYSIS
    CFA Institute Standard II(A): Material Nonpublic Information prohibits members who are in possession of material nonpublic information that could affect the value of an investment from acting on that information. Information is material if it would significantly alter the total mix of information currently available in such a way that the price of the security would be affected. The nature, specificity, exclusivity, and reliability of the source of the information helps determine materiality. Information is nonpublic until it has been disseminated or is available to the marketplace in general. There are three pieces of information that are described in the case that are relevant to Robles’s decision to trade: (1) the purchase of excess land and resources at the site of the company’s main plant, (2) the calculation that using this additional capacity would reduce the company’s production costs to less than industry norms, and (3) the company’s expansion plans. Are any of these three pieces of information material nonpublic information?
    The first piece of information about acquiring additional production assets would likely be considered material. But it is not clear when the purchase occurred. Was it recent? Is the purchase in the public record? It is possible that the purchase is already publicly known, and the management’s disclosure to Robles is nothing new. It is also possible that the purchase just occurred or is imminent and has not been announced publicly, which would make the information nonpublic. The second piece of information about being to produce at much lower costs would be material information. But it is unclear whether this information is known only to the company. Certainly, confidential proprietary manufacturing cost calculations would be nonpublic, but astute analysts with knowledge of the industry may be able to easily make this type of evaluation. In that case, the information may not be confidential. Finally the third piece about the company’s expansion plans are very likely to affect the price of the company’s stock and would thus be material information. But again, the information is not specific enough. Management tells Robles that the company “may consider” expansion when the global economic conditions “improve sufficiently.” The possibility that the company “may consider” expanding is vague and ambiguous. When the economy “improves sufficiently” is also subjective and indefinite. Even if this information is disclosed “confidentially” only to Robles and is not publicly available, it is not clear that general plans about possible expansion at some unknown point in the future rises to the level of material information.
    In sum, a portion of the information disclosed to Robles by company management has the potential to be material. It is unclear from the facts of the case that the information is nonpublic. An argument could be made either way. We would need more information to make a determination about whether Robles violated the prohibition against trading on material nonpublic information.

    The facts for this case were submitted by Shreenivas Kunte, CFA Institute Director of Continuing Education and Advocacy, India, Asia-Pacific Region.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Capitalizing on Tax Benefits is OK, Right?

    31 May 2018
    1
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 24)


    Marte is an asset manager in Puerto Rico, a US territory. Residents of Puerto Rico receive significant tax advantages by investing in local securities. To capitalize on this advantage, Marte’s firm offers clients shares in a closed-end investment fund, organized under Puerto Rico’s financial laws and regulations, that holds at least 67% local securities and is permitted to borrow against up to 50% of its assets. The fund is usually leveraged to the extent legally permitted. Many of Marte’s clients have a modest net worth and conservative or moderate investment objectives. Marte convinces them to invest 85% or more of their assets in shares of the closed-end fund. Marte’s actions are

                     A. appropriate because they take advantage of the fund’s unique tax benefits for his clients.
                     B. inappropriate because the fund uses leverage to boost returns.
                     C. appropriate as long as Marte fully discloses the risks and benefits of the fund to his clients.
    ​                 D. inappropriate because the fund is an unsuitable investment for his retail clients.

    ANALYSIS

    CFA Institute Standard III(C): Suitability states that CFA Institute members and candidates in an advisory relationship with clients must “determine that an investment is suitable to the client’s financial situation and consistent with the client’s written objectives, mandates, and constraints before making investment recommendations or taking investment action.” In this case, given the favorable tax advantages of the investment vehicle, investment in shares of the closed-end fund may be suitable and appropriate for his clients at some level. In addition, the fund’s use of leverage may not be inappropriate or make the investment unsuitable. That said, Marte should always fully disclose the risks and benefits of his recommendations to his clients.
    But choice D is actually the best response. Given the financial circumstances and investment objectives of his clients, the high concentration of the fund’s shares in his clients’ accounts combined with the leverage make the weighty investment in the fund unsuitable. Despite the favorable tax advantages, highly concentrated clients bear the increased risk that a single market event affecting the value of the fund’s shares would significantly decrease their total account value. This risk is exacerbated by the fact that the closed-end fund is internally leveraged, which could magnify the fund’s loss during a market event that causes share values to drop steeply.

    This case is based on FINRA enforcement action from 2015.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.

     
  • Understanding the Investment Fundamentals of the Banking Sector. A part of the series "Sector Analysis: A Framework for Investors"

    Joseph Wong    Alan Lok, CFA, Eunice Chu, Guruprasad Jambunathan
    28 May 2018
    9809
    314

    INTRODUCTION TO SECTOR ANALYSIS: A FRAMEWORK FOR INVESTORS

    The key to a company’s success depends on how well it executes its business model. This calls for optimising the allocation of limited resources to generate sustainable cash flows, for investing in new products, technologies, and services in responding to the wider competitive landscape or societal changes and mega trends, as well as for devising appropriate responses in the face of an evolving macroeconomic, regulatory, and political environment.  

    Different industries often require very different business models; and even within the same industry, the model that does add value to the business may vary somewhat from company to company.  

    To help investors undertake proper due diligence on a company, we have generated a framework of analysis designed to tease out the following: (1) whether the pertinent factors favour the firm in question; and (2) whether management is effective in executing its business model or value-generating strategies, while responding appropriately to its external environment.

    This framework is customised to specific sectors and incorporates interviews with professionals within those sectors. 
     
    THE BANKING SECTOR

    In earlier editions of the Sector Analysis series, we explored the Real Estate Investment Trust (REIT) business model and the Telecommunications sector. In this article, we examine banks and highlight the various factors and lines of enquiry that will help you make informed investment decisions.

    SPHERES OF OPERATION

    The role banks play in our lives is vital. Their activities underpin the efficient working of an economy – indeed, they are often among the most significant constituents of a country’s stock market. When we talk about banks, we are not just referring to the familiar branches we occasionally visit to deposit funds or withdraw cash. Banks is an umbrella term that describes an industry subdivided into several segments, including, but not restricted to Consumer Banking & Wealth Management (also known as retail banking), Wholesale (also known as institutional banking) and Treasury.

    To read more, download the full sector analysis for the Banking Sector with accompanying question bank below.

    This publication qualifies for 1.0 CE credits under the guidelines of the CFA Institute Continuing Education Program.
  • Ethics in Practice:  Leaving Firm and Telling People Why!

    17 May 2018
    719
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.
    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 23)

    Nickoli is an investment counselor with HHI Capital Management. A colleague at her local CFA Society encourages Nickoli to leave HHI and join her at Vesuvius Asset Advisers. Nickoli eventually agrees and determines to leave at the beginning of the new year. Over the course of a few weeks prior to tendering her resignation, she mentions to her clients that they will likely be working with a new investment counselor in the new year because she will be leaving HHI in the coming weeks. Her clients express their surprise, and when pressed for details about why she is leaving, Nickoli shares that she is frustrated by and disagrees with the structure and direction of the firm, she disagrees with and does not have confidence in the current leadership, she does not believe the firm will be able to attract and retain good people, and other HHI employees have been mistreated and will also be leaving soon. Several of Nickoli’s clients indicate that they would like information about Vesuvius and may be interested in switching their accounts. After submitting her resignation, Nickoli immediately relays the names of those clients to Vesuvius, and after the first of the year, she begins soliciting them to transfer their accounts from HHI to her new firm. Nickoli’s conduct is
    1. acceptable because she is looking out for her clients’ best interest and believes Vesuvius provides better service.
    2. acceptable because she provides her opinion of HHI in response to questions from clients.
    3. acceptable because she did not solicit clients until after she left HHI.
    4. unacceptable because she made disparaging remarks about HHI to clients while she was still with the firm.
    ANALYSIS
    Answer D is the best response because this case relates to CFA Institute Standard IV(A): Duty to Employer – Loyalty, which states that CFA Institute members and candidates “must act for the benefit of their employer and not…otherwise cause harm to their employer.” Although a departing employee is generally free to make arrangements or preparations to change firms before terminating the relationship, those preparations must not conflict with the employee’s continuing duty to act in the best interests of the current employer and not otherwise undermine, disparage, or cause harm to the current employer. In this case, Nickoli decided to leave HHI and join Vesuvius several weeks before she submitted her resignation and notified the firm. During that time, Standard IV(A) obligated her to continue to act in the employer’s best interest and not engage in any activities that would conflict with this duty until her resignation became effective. Nickoli violated her duty of loyalty to HHI by making disparaging and harmful statements about the firm to its clients in the weeks prior to submitting her resignation and by promoting Vesuvius to HHI clients while she was still employed by HHI. Although she did not make actual solicitations until after she left HHI, Nickoli used the final weeks of her employment with HHI to contact and gauge which of the firm’s clients may be interested in receiving information about Vesuvius and possibly transferring their accounts from HHI. And although an investment professional should protect the client’s best interest, even if Nickoli believes the clients will be better off with her at Vesuvius, the clients’ relationship is with HHI. She is a representative of HHI, so she cannot malign the firm while still employed, even in response to questions.

    This case is based on a disciplinary case handled by the CFA Institute Professional Conduct group. The member in question received a Private Censure.
     
    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Doing Enough to Protect Clients?

    04 May 2018
    53
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 22)

    Giddings is responsible for compliance at GWH, a large broker/dealer and investment adviser. In connection with GWH’s wealth management business, the company maintains the personally identifiable information (names, addresses, phone numbers, account numbers, balances, and holdings) of hundreds of clients. Giddings adopted a number of policies and restrictions, including a Code of Conduct, that address employees’ access to and handling of this confidential information. Marsh, who works for GWH as a client service associate, downloads client data to his personal server located at his residence to facilitate his telecommuting. Marsh’s server is hacked and portions of the personal client information downloaded by Marsh are posted for sale on the internet. Did either Marsh or Giddings violate the CFA Institute Standards of Professional Conduct with respect to confidentiality? Join the conversation to tell us what you think and why.
    1. Marsh violated the CFA Institute Standards of Professional Conduct.
    2. Marsh did not violate the CFA Institute Standards of Professional Conduct.
    3. Giddings violated the CFA Institute Standards of Professional Conduct.
    4. Giddings did not violate the CFA Institute Standards of Professional Conduct.
    ANALYSIS
    CFA Institute Professional Standard III(E): Preservation of Confidentiality requires that CFA Institute members and candidates keep information about current, former, and prospective clients confidential unless the information concerns illegal activities, disclosure is required by law, or the client permits disclosure. Although Standard III(E) does not require investment professionals to become experts in information security technology, they must make reasonable efforts to ensure that communication methods and compliance procedures follow practices designed to prevent accidental distribution of confidential information. In this case, the facts presented do not provide enough information to determine whether Marsh or Giddings acted inappropriately to allow confidential GWH client information to end up for sale on the internet.
    As you think about your answer choice, there are two main questions that need to be addressed. The first issue is whether Marsh had permission to download client data to his personal server. If he did not, his misappropriation of client information for his own purposes constitutes a violation of Standard III(E). Even if he was not responsible for the distribution of the information, his misconduct facilitated the publication of the information. If Marsh did have permission from GWH to download and use the information from home, the second issue is whether Giddings adopted sufficient compliance policies and procedures reasonably designed to protect client information.
    As the compliance officer, Giddings is charged with ensuring the confidentiality of customer information by protecting against any anticipated threats or hazards to the security or integrity of the records. Giddings and GWH must work to protect against unauthorized access or use of client information that could result in substantial harm to clients. Although the facts state that GWH policies and Code of Conduct restricted access and handling of client information, the nature and extent of those safeguards are not provided. The fact that client information was able to be accessed and published calls into question the effectiveness of Giddings compliance efforts. Even if the policies were sufficient, there appears to have been insufficient auditing and/or testing of the effectiveness of the safeguards to keep client information confidential.
    This case is based on a US SEC enforcement action from 2016.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     
     
  • The Next Generation of Trust - In India, Investors are Confident and Trusting

    03 May 2018
    3844
    53

    While Indian investors are the most likely to say they trust financial services versus other markets surveyed, trust for the financial services sector declined in India since our 2016 survey.

    Indian investors surveyed were much more likely to have a financial adviser than those in other markets. Although trust is still the most important factor in choosing an adviser, retail investors are also strongly motivated by the desire for performance. They are also much more likely than the average investor around the world to recommend their adviser to others.

    The top two reasons Indian investors are likely to leave their financial adviser are underperformance and a lack of communication and responsiveness. Indian investors favor personalized products and technology, and they also place high importance on brand. In terms of building trust, adhering to a code of conduct has a great impact on trust in India. Professional credentials also play a significant role in increasing trust.
  • The Next Generation of Trust - Investor Trust in Financial Services in Singapore

    03 May 2018
    1297
    11

    Singapore-based investors expect their advisers to be ethical and well-informed. Almost half of investors in Singapore “completely trust or trust” the financial services sector. Investors in Singapore tend to be significantly younger than those in many other markets. This may partially explain higher trust levels, as younger investors globally are also more trusting of financial services. A majority of investors surveyed in Singapore work with financial advisers, and few investors in Singapore report that they are very confident in their own ability to make investment decisions.

    Some investors in Singapore may question adviser competence. Their primary investment concerns are “My financial adviser making recommendations that result in losses” and “Hiring an unscrupulous financial adviser.” Trust is the most important for investors in Singapore when hiring an adviser. Communication is extremely important to investors in Singapore, and lack of communication is the primary reason they would discontinue a relationship with a financial adviser, although more than half also cite underperformance as a reason for leaving.

    Investors seem to prefer technology solutions over people as a majority say in three years it will be more important to have technology tools to execute their own strategy rather than human advisers. However, when selecting an investment firm, a majority of investors are split between the importance of a “Brand I can trust” and “People I can count on.”

    Read more in the full Market Report PDF below
  • The Next Generation of Trust - People are Trusted More Than Technology in Australia

    03 May 2018
    2286
    21

    Retail investors in Australia are some of the most satisfied among those we surveyed. However, even though Australian investors feel the markets are fair, retail investors are much less likely to work with financial advisers than investors in other markets. Although investors are not very confident in their ability to make investment decisions, many still find little need for professional advice.

    By and large, Australian investors also think that advisory fee structures are fair. However, they have less interest in personalized products than investors in any other market included in the survey.

    As in most markets, trust is the most important factor in choosing an investment adviser. However, in Australia people are trusted more than technology. A firm’s brand is also less important than the competency of its employees, and Australians rely on brand less than investors globally.

    Surprisingly, given the overall level of satisfaction for their investment firms, trust is tested in times of crisis, and Australian retail investors are, on average, slightly less confident that their investment firms are prepared for another financial crisis.

    Read more in the full Market Report PDF below.
  • The Next Generation of Trust - Investor Trust in Financial Services in Hong Kong SAR, China

    03 May 2018
    1538
    9

    Hong Kong is one of three markets in our survey where trust in the financial services sector is declining. Investors in Hong Kong are highly motivated by returns, and they prioritize performance over trust as a factor in choosing an adviser. Well over half of investors would also terminate an advisory relationship for underperformance.

    Hong Kong investors also appear to be less pleased with their advisers, and fewer than 10% believe that advisers put client interests first. However, few investors in Hong Kong are very confident of their investment decision making, which may indicate why many prefer to invest with the help of financial advisers. Many investors are indifferent to using a robo-adviser and human advisers and in three years believe it will be more important to have technology tools to execute their own strategy rather than a human adviser.

    Investors in Hong Kong also place a high value on professional credentials, ongoing professional development, and firms that adhere to a voluntary code of conduct. When selecting an investment firm, the majority of investors prefer a “Brand I can trust” over “People I can count on.”

    Read more in the full Market Report PDF below

     

  • Ethics in Practice: Different Service for Different Clients?

    29 Apr 2018
    558
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 21)

    Korloff is a money manager for several clients. One of the clients, a pension fund, accounts for 35% of the assets under management at Korloff’s firm. The fund pays more management fees to the firm than any other client. The executive director of the pension fund has made it clear that, because of this dominant position, she expects Korloff to give the pension fund “enhanced service” service in the form of advance information on investment recommendations, priority position for initial public offerings, supplemental research reports on potential investments, and daily personal contact. Korloff should
    1. refuse to comply with the request.
    2. comply with the request only if his preferential treatment does not disadvantage other clients.
    3. comply with the request because the fund is such a large and important client.
    4. comply with the request because the fund is paying for the preferential treatment with the higher fees.
    ANALYSIS
    This case relates to Standard III(B): Fair Dealing, which states that CFA Institute members and candidates “must deal fairly and objective with all clients when providing investment analysis, making investment recommendations, and taking investment action.” Treating clients “fairly” means not favoring one client over another or discriminating against clients when disseminating investment recommendations or actions. Differentiated service to clients, in the form of personal, specialized, or in-depth service to clients who are willing to pay for premium service, is acceptable under the standard. Fair dealing also dictates that recommendations be distributed in way that all clients for whom the investment is appropriate for have a fair opportunity to act on the recommendation. Korloff may provide preferential treatment (reflecting the amount and level of fees paid by the pension fund) in the form of supplemental research and daily contact to the pension fund without disadvantaging other clients.
    But different levels of service cannot disadvantage or negatively affect other clients and should be disclosed and made available to all clients and potential clients. So, in this case, providing “enhanced service” to the pension fund is acceptable as long as the preferential treatment does not disadvantage other clients and it has been disclosed to them that they can also receive enhanced service along with the pension fund. Two aspects of the request — providing advanced recommendations to the fund and giving the fund priority position for initial public offerings — would disadvantage other clients by systematically benefiting the pension fund at the expense of other clients. With all of this in mind, choice B is the best response.
     
    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     
  • Capital Formation - Call for Information

    28 Apr 2018
    10212
    0

    In this call for information, we are asking you to share your knowledge of your local market and region, and the issues surrounding public vs. private capital formation.
  • Presentation Deck of the SIDC - CFA Society Malaysia ARX Seminar - 'Future State of The Investment Profession"

    27 Apr 2018
    249
    25

    The Future State of the Investment Profession (FSIP) study released by CFA Institute describes an industry at an existential crossroads. It warns that investment industry leaders who fail to transform their business models may jeopardize the future of their firms. To "future proof" themselves, FSIP provides a series of planning scenarios that combine magatrends that impact all industries with forces specific to the investment industry. These scenarios can be used as tools for leaders to steer the future of their businesses and ultimately improve outcomes for investors.
    Among the megatrends identified are technological advances, redefined client preferences, new macroeconomic conditions, different regulatory regimes reflecting geopolitical changes, and demographic shifts.
     
    More insights can be found in the attached presentation deck.
  • Ethics in Practice: Is It OK to Just Quietly Fix Error in Model?

    19 Apr 2018
    35
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 20)

    Roger Foss is an institutional money manager specializing in a quantitative investment strategy. He developed his own quantitative model that he uses exclusively as the investment decision-making tool for client accounts. Foss heavily markets his “comprehensive and exclusive” model to clients and prospective clients as being an effective tool to manage risk. After using the model for several years, Foss discovers an error that inadvertently eliminated one of the key components for managing risk, leading to underperformance as a result of industry overexposure. During that time, several clients raised questions about their portfolio performance, but Foss attributed it to market volatility. Foss revises the model to address the error and begins to promote his “new and improved exclusive and comprehensive quantitative model.” Foss’s conduct is
    1. unacceptable because the original model resulted in underperformance.
    2. acceptable because factors in quantitative models are proprietary and do not need to be disclosed.
    3. unacceptable because he failed to disclose the error in the model and its impact on client performance.
    4. acceptable because Foss corrected the error and uses the new model.
    ANALYSIS
    This case involves CFA Institute Standard I(C): Misrepresentation, which states that CFA Institute members and candidates must not knowingly make any misrepresentation relating to investment analysis, recommendations, or actions. A misrepresentation is any untrue statement or omission of fact that is otherwise false or misleading. Although investment professionals are not required to divulge the proprietary elements of their investment decision-making model, they are prohibited from making statements about the model that are not true. In this case, Foss claimed that his “comprehensive model” would effectively manage risk while at the same time, because of an error, the model omitted a key factor for managing risk. Foss also made misrepresentations to clients by failing to disclose the error and its impact on performance and attributing the model’s underperformance to market volatility rather than the error. Correcting the error and using a new model does not address the misrepresentations. Underperforming the market or benchmark is not necessarily of indicative unethical behavior. But the fact that the original model did not effectively manage risk and led to underperformance also may lead to a violation of the CFA Institute Standard — Diligence and Reasonable Basis requiring CFA members to exercise diligence and thoroughness in analyzing investments and taking investment action. Choice C is the best response.

    This case is based on a US SEC enforcement action.
     
     
    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Designation Is Like a Degree, Right?

    12 Apr 2018
    788
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 19)

    Bilal Ahmed recently earned his CFA designation and joined a medium-sized hedge fund as a senior analyst. His supervisor, Elizabeth Bennett, the founder of the firm, earned her CFA designation 10 years ago. But she has not paid her CFA Institute membership dues for the past four years and no longer participates in the organization’s continuing education program. Bennett uses the CFA designation on her business card and on all the marketing materials for the fund. When Ahmed asks Bennett about her using the designation, Bennett tells him that since she passed the exam and earned the charter, the credential is similar to a degree from university that cannot be taken away. Later, during a marketing pitch by Ahmed and Bennett to a potential investor, the investor notes that he has narrowed down his manager search to firms that only employ CFA charterholders in senior positions. He asks Bennett if everyone in the firm on the investment side is a CFA charterholder. Bennett responds “Yes, that is correct.” Ahmed does not respond. Did either Ahmed or Bennett violate the CFA Institute Standards of Professional Conduct? Join the conversation to let us know your answer and why you chose it.
    1. Ahmed violated the CFA Institute Standards of Professional Conduct.
    2. Ahmed did not violate the CFA Institute Standards of Professional Conduct.
    3. Bennett violated the CFA Institute Standards of Professional Conduct.
    4. Bennett did not violate the CFA Institute Standards of Professional Conduct.
    ANALYSIS
    This case relates to CFA Institute Standard VII(B): Reference to CFA Institute, the CFA Designation, and the CFA Program, which states that when referring to the CFA designation, CFA Institute members and candidates “must not misrepresent … holding the designation.” The CFA designation is unlike a degree from university in that once granted the right to use the designation, individuals must also satisfy CFA Institute membership requirements (including paying dues) to maintain the right to refer to themselves as CFA charterholders. Although Bennett earned her charter, her membership is considered lapsed because she has not been paying dues to CFA Institute. Until her membership is reactivated, she must not present herself as a charterholder, and by continuing to use the CFA designation and representing herself as a charterholder to a potential client, Bennett has violated Standard VII(B).
    Participation in the CFA Institute Continuing Education Program is not mandatory for maintaining your designation, but it is encouraged as a way to meet the CFA Institute Code of Ethics provision that calls for members to maintain and improve their professional competence. Ahmed hears Bennett refer to herself as a charterholder, but knows that Bennett’s CFA Institute membership has lapsed. Standard I(A): Knowledge of the Law prohibits members from knowingly participating or assisting in the violations of others and requires members to dissociate from any unethical or illegal conduct. The issue for Ahmed is whether his acquiescence and silence in the face of Bennett’s misrepresentation rises to the level of assisting or participating in Bennet’s violation of the standard.
    It could be argued that Ahmed’s participation in a sales meeting in which he knows false information is given to a potential investor, and which could cause harm to that investor, constitutes assisting in the violations of those who provide that false information even if there is no active conduct by Ahmed. Best practice would be for Ahmed to address Bennett directly about her conduct and ask her to reinstate her membership or correct the statement made to the potential investor. If Bennett refuses to take corrective action, Ahmed could bring this conduct to the attention of the fund’s compliance department for them to address and dissociate from the activity by not participating in any additional sales meetings with Bennett.
    This case was written by Tanuj Khosla, CFA, CAIA
     

     Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Understanding the Investment Fundamentals of the Telecommunications Sector. A part of the series "Sector Analysis: A Framework for Investors"

    Joseph Wong    Alan Lok, CFA, Eunice Chu, Guruprasad Jambunathan
    10 Apr 2018
    35750
    352

    For investors exploring the telecommunications sector, it is important to be aware of the key economic, operational and regulatory factors influencing these firms. These not only vary from country to country but also from company to company, depending on the kind of service that is being provided – fixed line, mobile or a combination of the two. Common to all are the opportunities afforded by the growth in data and the proliferation of online services. For operators in developing markets, lower penetration rates offer long-term opportunities. Meanwhile for operators in the  developed world, staying relevant by keeping pace with technological advancements is vital. In general, the sector is marked by intense competition, hefty capital expenditure requirements (at least historically) and rigorous regulatory intrusion.

    There are three listed telecommunication stocks in the FTSE ST All-Share index, with a net market capitalisation of S$28.6 billion, and they accounted for 7.5% of the index as at 31 Jan 2018*. Of the three, SingTel is the largest constituent  company, representing about 90% of the Singapore telecommunication sector by market capitalisation.

    The sector analysis for REITs can be found on ARX here: https://www.arx.cfa/post/Understanding-Real-Estate-Investment-Trusts-REITS-Sector-Analysis-A-Framework-for-Investors-5166.html 

    To read more, download the full sector analysis for the telecommunications sector with accompanying question bank below. 

    This publication qualifies for 0.5 CE credits under the guidelines of the CFA Institute Continuing Education Program.
     
  • Ethics in Practice: When Is Scrutinizing Risk Not Enough?

    05 Apr 2018
    124
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 18)

    Aaron Bouchard is a portfolio manager with discretionary control over the portfolios of more than 400 clients. Bouchard pursues a “medium risk, value” strategy for his clients, and they hire him on that basis. After scrutinizing the risk of potential investments, he makes a risk assessment for each of the securities he recommends based on the risks facing the issuer’s business. The majority of securities Bouchard invests his clients’ assets in are small-cap companies in the oil and gas sector and in commodities that he considers “medium” risk. As a result, Bouchard’s client accounts are concentrated in those sectors. Bouchard’s actions are
    1. acceptable if he discloses his investment strategy to his clients.
    2. unacceptable because he does not exercise diligence and thoroughness in executing his investment strategy.
    3. acceptable if he maintains appropriate records to support his investment recommendations and actions.
    4. unacceptable because he does not have a reasonable and adequate basis to support his investment recommendations and actions.
    ANALYSIS
    This case involves CFA Institute Standard V(A): Diligence and Reasonable Basis, which states that members and candidates “must exercise diligence, independence, and thoroughness in analyzing investments, making investment recommendations, and taking investment actions.” Under this standard, members must also “have a reasonable and adequate basis, supported by appropriate research and investigation” for making investment recommendations and taking investment action. In this case, there is nothing to indicate that Bouchard’s investigation and analysis of the individual securities that he chooses for his clients’ accounts is insufficient or inadequate. The facts state that he “scrutinizes” the risk of potential investment on an individual basis. But in making the investment decisions, he does not appear to exercise diligence or thoroughness because he does not give sufficient weight to factors that go beyond long-term risk of the individual securities themselves. Bouchard does not consider such factors as security concentration in client portfolios, price volatility in the short term, or liquidity risk. Without considering all these factors in their entirety, Bouchard’s actions underweight the risk of the securities, likely making them a more risky investment for his clients than the “medium” risk that he has assigned. Because he does not exercise diligence and thoroughness when implementing his investment strategy, disclosing his strategy to his clients or maintaining adequate records for a faulty strategy will not cure the misconduct. In this case, the best choice is B.

     Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.


     
  • Ethics in Practice: Stick to IPS during Volatile Markets?

    03 Apr 2018
    94
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 17)
    Barry Van Wagenen manages the portfolios of high-net-worth clients. He completes an individualized IPS for each client when opening their account. He then develops a personal asset allocation formula based on each client’s risk tolerance, financial goals, and so forth. Over the past two days, the domestic and global equity securities markets fell more than 6%. Fearing a continued drop in the markets, Van Wagenen liquidates his personal investments and moves to cash until the financial markets stabilize. But he keeps his clients’ portfolios fully invested pursuant to the directives in their IPS. Van Wagenen’s actions are
    1. unacceptable because he is trading ahead of his clients for his personal account.
    2. unacceptable because his personal investment decisions do not match the investment recommendations he has made to his clients.
    3. unacceptable because he is not acting in a diligent and reasonable manner by leaving his clients assets fully invested in a rapidly declining securities market.
    4. acceptable because he is following his client’s directives, as detailed in their IPS, by keeping them fully invested.
    ANALYSIS
    The CFA Institute Ethical Decision-Making Framework provides guidance to investment professionals facing ethical dilemmas. The framework calls for identifying the ethical principle at issue, to whom a duty is owed, the relevant facts, and whether there is a conflict of interest to assist in choosing the appropriate course of conduct. In this case, we need more facts before we can properly analyze whether Van Wagenen’s actions are acceptable. Specifically, what level of investment discretion have Van Wagenen’s clients given him regarding investment decisions and whether the clients’ IPSs address how investment decisions are to be made in the face of rapidly changing market conditions. If Van Wagenen has full investment discretion, failing to adjust his client’s portfolio in a timely manner means Van Wagenen could be in violation of his duty to act with diligence and a reasonable basis — CFA Institute Standard V(A) — and in violation of his duty to his clients of loyalty, prudence, and care — CFA Institute Standard III(A). Similarly, if the IPS states that in the event of a significant market downturn, Van Wagenen has the authority to alter the agreed on asset allocation formula prior to formally revising the IPS, that would also be a strong indicator for Van Wagenen to take action. Under those circumstances, answer C would be the best choice. But if Van Wagenen has limited discretion or the IPS was silent about “emergency” powers to make changes in the portfolio, Van Wagenen’s hands may be tied (answer D). It is also not clear whether Van Wagenen acted diligently in attempting to contact his clients in the face of the volatile markets to determine whether they had any changes to their investment instructions. CFA Institute Standard VI(B): Priority of Transactions states that investment transactions of clients must have priority over personal transactions. This standard does not require that an investment professional’s personal investments match those of his clients because there may be differences in the risk tolerances, financial goals, and so on between the adviser and his or her clients (answer B). Finally, it is not clear that Van Wagenen is “front running” his client accounts because the price of the securities at issue may not be affected by the trades on his personal account (answer A).
    The facts for this case are not based on a particular case but reflective of current market volatility.
     

     Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • PRACTITIONER’S BRIEF: A SHOW OF APPRECIATION: WHY SOME FUND MANAGERS NEED THEIR INSTITUTIONAL BROKERS

    Joseph Wong    Rich Blake, Asjeet S. Lamba, PhD, CFA
    27 Mar 2018
    6282
    0

    Based on the paper “The Value of Institutional Brokerage Relationships: Evidence from the Collapse of Lehman Brothers” by Jianfeng Shen, Jerry T. Parwada, Kok Keng Siaw, and Eric K.M. Tan, available at https://www.arx.cfa/post/The-Valueof-Institutional-Brokerage-Relationships-nbsp-Evidence-From-The-Collapse-of-Lehman-Brothers-4536.html

    This paper was recently recognized for excellence by the CFA Institute Asia-Pacific Research Exchange (ARX) at the 7th Annual Financial Research Network (FIRN) Conference. FIRN is a network of finance researchers and PhD students across Australia and New Zealand.

    Institutional brokerage has always been a many-splendored thing. Analyst recommendations, IPO allocations, block order execution, networks for sourcing liquidity—these and other equity-trading–tied services were the lifeblood of Wall Street. Fund managers, via directed trades, lapped it all up and in return fed bank-owned brokers billions in commissions. Then came the Dodd–Frank Act, which led banks to scale back on capital-at-risk, and an even more dramatically disruptive trend: the rise of automated, or algorithmic, trading.

    Today, the interaction between money managers (“buy side”) and institutional brokers (“sell side”) is focused primarily on managers getting access to bank-run electronic trading venues known as “dark pools.” Though the institutional equity trading business has shrunk to a shell of its former self, an unshakable symbiosis remains between the two “sides.”

    One can never underestimate the intangible benefit of a longstanding, trusted relationship. And certain mutual fund managers may want to consider those benefits when deciding whether to dole out commissions or reel them in, according to Shen, Parwada, Siaw, and Tan, whose paper, “The Value of Institutional Brokerage Relationships: Evidence from the Collapse of Lehman Brothers,” is the subject of this ARX Practitioner’s Brief.

    “There is still much that we do not know about how fund managers’ performance is related to institutional brokers because it is difficult to measure relationship capital,” the authors write as they tee up their research work, which cleverly holds a mirror up to one question—“What do brokers really offer fund managers?”—by asking another instead: “How would a fund manager suffer if one of their trusted brokers suddenly was removed from the equation?

    WHAT’S THE INVESTMENT ISSUE?
    Although fund managers have become less reliant on sell-side research, billions in commissions
    still flow from fund managers to brokers. Analysts can’t offer the kind of insider intelligence that they once could (because of the US SEC’s Regulation Fair Disclosure), but information is still to be had, say, from a bank-facilitated meeting with a management team.

    The reality is there are thousands of stocks out there to be covered but only so many analysts a buy-side firm can afford to employ. Unavoidably, fund managers continue to steer trades to institutional brokers in exchange for a bundle of premium services, which may include research, execution, meetings, conferences, and a certain level of recognition on the part of fund managers that they can rely on their trading partners in a pinch. But does all of that translate into better investment performance? If not, what’s the point of having an institutional broker?

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    The collapse of Lehman Brothers on 15 September 2008 was the largest bankruptcy in US history. For the authors, it was the perfect setting to answer the question, “What happens to fund managers when one of their key brokers goes out of commission?” Using data from US SEC Form N-SAR (through which mutual funds disclose to whom trading commissions are paid), the authors identified more than 730 mutual fund clients of Lehman Brothers just before the crisis; they then compared that group’s performance over a 48-month period (September 2006 through August 2010) to 366 non-Lehman mutual fund clients.

    It is worth noting that Lehman’s brokerage arm did not instantaneously vanish in the collapse. The authors assert a causal impact on the Lehman mutual fund clients not from Lehman’s disappearance but rather from the severe disruption of its brokerage unit. Disrupted is one way to put it: the unit was liquidated and absorbed abruptly and chaotically into Barclays Capital. Trust evaporated. Of 25,000 employees, one-third were let go more or less immediately and another one-third left within two years. Still, one would think that certain key people were retained and to some degree some form of value was rendered. Besides, most fund managers had plenty of other brokers in their stables, and further, what value did brokers even provide in the first place?

    For fund managers, assessing the value added by their institutional brokers had long been a challenging exercise. Perceptions at the time of the Lehman collapse were largely that the value of such brokers had already diminished. And yet …

    WHAT ARE THE FINDINGS?
    The authors found that certain types of fund managers experienced a decrease in performance when Lehman became severely impaired. They pointed to monthly return lags averaging as much as 70 basis points per month relative to those fund managers who weren’t affected. Hardest hit were smaller firms that by design had exceedingly concentrated brokerage networks; also hurt were those firms that specialized in small-cap investments and thus were overly reliant on the deeper breadth of sell-side research. Put another way, these types of small/small-cap–focused firms were the ones extracting the most value from their broker relationships. Portfolio managers, especially smaller ones, strategically channeled a large portion of orders to a few brokers to get more bang for their commission bucks. And this reliance came at a risk. Damage to one key broker resulted in a reduction in alpha.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    Human capital shouldn’t be underestimated. Trusted brokers leverage myriad relationships built up over time to incalculable effect—sometimes you really don’t know what you’ve got until it’s gone. Downsizing doesn’t always pay dividends. It’s still important, particularly for small-in-size/small-cap–focused fund managers, to maintain close ties with institutional brokers. Although certain funds may resort to establishing new relationships, doing so involves significant switching costs and the forfeit of any relationship capital developed in the prior relationships. Overall, relationships still matter—perhaps to an ever-lessening degree in equities, but they still matter. Lehman’s collapse made for a fine experiment. But now, 10 years later, the authors’ findings, while surprising, nevertheless ring increasingly irrelevant with each passing day as more buying and selling occurs autonomously via algorithmic trading.

    The authors challenge their peers to take up similar research in fixed income, where trusted human capital remains truly valuable. The give-and-take between sell side and buy side in fixed income would seem exceptionally rife for further exploration. But that is another story.

    ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.
  • Ethics in Practice: Raising Capital with Digital Assets?

    22 Mar 2018
    149
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 16)
    Munchee is a US-based business that created an iPhone application (App) for users to review restaurants. The company initiated an initial coin offering (ICO) to sell digital tokens to raise $15 million in capital to invest in improving the App. The company advertised and promoted the offering on its website, in a white paper, and on social medial channels and message boards, such as Twitter and Facebook, particularly in forums aimed at those interested in investing in Bitcoin and other digital assets. In the communications about the offering, Munchee said it would use the proceeds to create an “ecosystem” in which the company, its App users, restaurants, and others could use the tokens to buy and sell goods and services. Munchee explained that it expects the tokens to increase in value as a result of the company’s efforts. In addition, increased participation in the ecosystem and the use, or “burning,” of tokens would also help increase the value of the tokens. Finally, Munchee stated that it intended for the tokens to trade on a secondary market. Munchee’s ICO was
    1. unacceptable because it promoted a virtual and highly speculative investment unsuitable for investors.
    2. unacceptable because it promoted the investment through social media, blog posts, and brief tweets that did not describe the significant limitations and risks associated with buying the tokens.
    3. unacceptable because the tokens were an unregistered security under US securities laws.
    4. acceptable.
    ANALYSIS 
    This case involves Standard I(A): Knowledge of the Law, which requires CFA Institute members to “comply with all applicable laws, rules, and regulations . . . governing their professional activities.” The fact that that the tokens are a virtual currency, highly speculative, and thus unsuitable for many investors does not make it unethical for Munchee to offer them as investments. Munchee is not an investment adviser but an investment issuer. It would be up to investors and their advisers to determine whether an investment was suitable for their portfolio. Similarly, from an ethical standpoint, Munchee is free to promote the tokens in a variety of ways as long as the company provides full and complete information about the investment, responds to inquiries from potential investors, and does not provide any fraudulent or misleading information about the tokens. Munchee can direct those who see brief promotional material about the tokens on social media to the company’s white paper that presumably contains full and complete information about the tokens. Again, it would be up to an investment adviser, not the issuer, to describe the significant limitations and risks associated with buying the tokens from an investor’s perspective.
    This case turns on whether the tokens are a security and thus need to be registered according to the US securities laws (US law would applicable because Munchee is a US-based company selling the products in the United States). In its 11 December 2017 cease-and-desist order against Munchee, the US SEC declared that the tokens were securities as defined by Section 2(a)(1) of the Securities Act and must be registered. According to the test applied by the SEC, a product is a security if it involves the investment of money in a common enterprise with a reasonable expectation of profits that are derived from the entrepreneurial or managerial efforts of others. Upon being contacted by the SEC, the company immediately canceled the sale and refunded the money of buyers who had bought tokens. Because of this prompt action and Munchee’s cooperation, the SEC imposed no additional sanctions. In this case, the best answer is C because Munchee is a US company that violated US Securities laws. The laws of another jurisdiction may not require registration of this type of virtual currency as a security. In that case, answer A could be appropriate.

     Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     

     

     
     
  • Ethics in Practice: Just Protecting Client’s Assets.

    15 Mar 2018
    27
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 15)
    Mary Mwangi’s firm offered its clients several different insurance products. Three of Mwangi’s clients initially purchased one type of product (Class A), but later changed their mind and asked to swap the product for another, less expensive type (Class B). To complete the transaction, the law required the clients to execute new sale and purchase documents for the Class B product. The clients wanted to sign the necessary documents at the time they met with Mwangi to switch to Class B, but the documents were not ready. Mwangi advised her clients to wait until all of the paperwork was complete. But when the time came to complete the transaction, Mwangi was unsuccessful in reaching the clients for their signatures. Without the signatures, Mwangi’s firm threatened to cancel the swap, which because of other investment purchases, would have placed the clients’ accounts into an overdraft position. Under the firm’s policies, such shortfalls were to be covered by selling account assets once the debit had been outstanding for two weeks. To keep this from happening, Mwangi forged the clients’ signatures on the necessary documents to put the swap into effect. Mwangi’s actions were
    1. unacceptable.
    2. acceptable because the clients had already given their permission for the swap.
    3. acceptable with approval from her supervisor.
    4. acceptable if the clients gave her explicit permission to sign the documents on their behalf.
    ANALYSIS
    This case involves Standard I(A): Knowledge of the Law, which requires CFA Institute members to “comply with all applicable laws, rules, and regulations … governing their professional activities.” To complete the swap from the Class A to the Class B product, Mwangi’s clients were legally required to execute new sale and purchase documents, which did not happen because Mwangi forged their signatures. General approval of the transaction by the clients is insufficient to meet the legal requirement for client signatures. Obviously, approval of a supervisor to engage in illegal activities does not relieve Mwangi of her obligation to follow the law. Finally, even if the clients fully understand the circumstances and explicitly approve of Mwangi signing the forms on their behalf, the law requires that actual signatures of the clients must be on the documents. While the intent of the law is meant to protect the clients and the clients are waiving their rights, that still does not allow Mwangi to circumvent the legal requirements. The best response is A.

    This case is based on a disciplinary action by the CFA Institute Professional Conduct Program. Before this incident, the member had an unblemished career in financial services for more than 15 years. The firm confronted the member about the forgeries and she readily admitted what she had done. The member was terminated by her employer for cause and they reported her to the regulatory body. The regulator determined that the member had engaged in conduct unbecoming or detrimental to the public interest and in violation of the regulatory body’s member rules. She was suspended and  fined. CFA Institute investigated and imposed a Nine-Month Suspension on the member for violation of Standard I(A): Knowledge of the Law and Standard I(C): Misrepresentation.

     
  • Ethics in Practice: Keep Up Your Ethical Exercise! 

    14 Mar 2018
    142
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 2)
    Elizabeth is an investment manager at a wealth management firm with high-net-worth clients. When Elizabeth was hired a few years ago, her sister opened an investment account with the firm. Elizabeth has decided to leave the firm to set up her own boutique hedge fund with her colleagues. She asks her sister to close her existing account and put that money in the new hedge fund. Elizabeth’s request is:

    Answer Choices
    1. Acceptable since she has no obligation to keep her sister’s account at the wealth management firm.
    2. Unacceptable because she should not solicit her employer’s client to join the new fund.
    3. Unacceptable if she signed a non-compete agreement with her employer.
    4. Unacceptable if her hedge fund strategy is not suitable to her sister.
    Analysis
    The main ethical principle at issue in this case is Duty to Employer.  CFA Institute Standard IV(A): Duty to Employer – Loyalty, states that members “must act for the benefit of their employer and not deprive their employer of the advantage of their skills and abilities” and must not “cause harm to their employer.”  In this case, Elizabeth could potentially cause harm to her employer by causing her sister to move her assets away from the wealth management advisor.  But this case also highlights a key element of the CFA Institute Ethical-Decision-Making Framework – to identify relevant facts before choosing a course of action.  Sometimes not all the relevant facts are known.  Is Elizabeth still working for her employer when she asks her sister to leave the firm?  The facts are not clear.  If so, her actions are unacceptable because she would be causing harm to her employer (choice B).  The fact that the client is a close relation is irrelevant, Elizabeth’s sister is still a client of the firm. If Elizabeth is no longer employed by the wealth manager advisor, soliciting former clients may not pose a problem.  But if she has left, does Elizabeth have a non-compete agreement with her employer prohibiting her from soliciting clients of her employer?  If so, she would be prohibited from soliciting clients, including her sister, to the new hedge fund.  Choice D brings up the issue of suitability of investments.  Even if Elizabeth has already left the firm and a non-compete agreement is not in force, she should only be soliciting clients for whom the investment is suitable under Standard III(C): Suitability which states that members must “determine than an investment is suitable to the client’s financial situation” before making a recommendation or taking action. Is the hedge fund a suitable investment for Elizabeth’s sister? The question doesn’t provide any clues. Even if the hedge fund is a suitable investment, Choice D still does not address the main issue of whether Elizabeth his harming her employer.  There may be no “obligation” to keep her sister’s investments at the wealth management firm (Choice A), but depending on the facts, it would be unethical for her to do so.  Properly applying the Ethical Decision-Making Framework calls for identifying the relevant facts.  All the choices could be correct, depending on facts that are not provided in the question.  We need to know more.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Developing Your Ethical Decision-Making Skills

    14 Mar 2018
    98
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 1)
    David, an analyst for an asset management firm, attends a presentation for securities analysts at the headquarters of a manufacturing company. The analysts are very impressed with the presentation and ask the CEO many questions. After the meeting, the Head of Investor Relations invites all analysts to a club house for dinner and karaoke. Most of other analysts accept the invitation. Of the choices below, what do you believe David should do?

    Answer Choices
    1. Accept the invitation.
    2. Accept the dinner but not karaoke.
    3. Accept the invitation but disclose the invitation to his supervisor.
    4. Reject the invitation.
    Analysis
    The ethical principle at issue in this case is independence and objectivity.  The question turns on whether David compromises his independence and objectivity as an analyst by accepting an invitation to dinner and karaoke from representatives of the manufacturing company that he is researching. CFA Institute professional conduct Standard I(B) states that CFA Institute members “must use reasonable care and judgment to achieve and maintain independence and objectivity in their professional activities” and must not “accept any gift, benefit…or consideration that reasonably could be expected to compromise their…independence and objectivity.” So, would dinner and a night of karaoke reasonably be expected to compromise David’s independence and objectivity? The appropriate course of action turns on how extravagant the benefit might be.  Modest gifts and entertainment in the ordinary course of sociable business interaction may be unlikely to sway an analyst’s opinion.
    Choice A assumes that the dinner and karaoke is not extravagant and would have no impact on David’s opinion of the company. But we need more facts to ensure that is the case. Cultural context should also be considered when making a decision. Dinner and karaoke may be modest and tame in some cultures but more extensive and extravagant in other settings. Awareness of cultural sensitivities and expectations are very important, especially for those who may be working outside of their familiar home region. Choice B attempts to steer a middle ground by having David only accept part of the entertainment, which may lessen the threat of a compromised analysis by reducing the benefit. In practice, this may be awkward to do and the dinner itself could still be extravagant. Choice C also attempts to compromise by suggesting David could accept the dinner/entertainment as long as the gift/benefit is disclosed to the employer, seemingly mitigating the potentially problematic conflict of interest. But for disclosure to be effective it must be adequate. There is no indication that David will disclose the benefit to the clients who will read David’s research report. They will therefore have no indication that the analyst writing the report was given a nice dinner and potentially fun-filled night on the town by the subject of the report. Best practice would suggest that David reject the invitation (Choice D) to avoid any question about his honesty and integrity.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     
     
  • Ethics in Practice: Side Job in a Comedy Club is Fine, Right?

    08 Mar 2018
    101
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 15)
    Gary Stansfield, CFA, works as a portfolio manager at Pitt Asset Management (PAM) based in New York. He has been actively involved with theatre since his college days and performs occasionally as a stand-up comedian at a comedy club after work hours. He is not compensated for his performances, but he is hoping to leave his job to launch an entertainment career. Audience members often show their appreciation for Stansfield’s act by giving him nominal tips. One night, Elaine Bennet, a broker at Newman Brokers, a firm that PAM often trades with and in sizeable volumes, stops at the comedy club with a group of friends while Stansfield is performing. Bennet and her friends thoroughly enjoy Stansfield’s comic routine and, as a token of appreciation, the group tips him $5,000. Stansfield should
    1. accept the money and thank Bennet and her friends for their generosity.
    2. accept the money but disclose it to his supervisor at PAM.
    3. accept the money but seek approval from his supervisor before continuing to perform at the club if he anticipates further additional compensation.
    4. not accept the money but thank Bennet and her friends for their compliments on his performance.
    ANALYSIS 
    This case potentially involves violations of the CFA Institute standards related to independence and objectivity and/or conflicts of interest. If Stansfield accepts the tip, it could be construed as gift to influence his conduct because some may find it implausible that an audience member would give such a generous tip irrespective of how much he or she might have enjoyed the comic sketch. The large tip he receives from Bennet and her friends after they attend his performance could be seen as an attempt by Bennet to influence Stansfield’s/PAM’s choice of brokers. But a key step of the CFA Institute Ethical Decision-Making Framework asks those facing an ethical dilemma to identify relevant facts. A number of relevant facts need to be determined to make an informed decision about the appropriate course of action for Stansfield. Does Bennet know Stansfield and know that Stansfield works for PAM or are they strangers? Does Stansfield have decision-making authority in choosing brokers on behalf of PAM (and if so does Bennet know this) or is Stansfield not involved in the decision about which brokerage firm to use? Does Stansfield know Bennet and who she works for? Was the tip primarily from Bennet or did it represent a collection from the whole group of friends? Do her friends work at Newman as well? Is one of them particularly wealthy and generous with struggling new entertainers? Assuming that the tip came primarily from Bennet and she knew Stansfield worked at PAM and believed Stansfield to have influence over PAM’s brokerage decisions, and if Stansfield knew Bennet and who she worked for, then best practice would be for Stansfield to politely reject the tip because it could be perceived to influence his fairness and objectivity when allocating trades. Although the information is incomplete, with these assumptions, the best response would be D. In working at the comedy club, Stansfield did not violate Standard IV(B): Additional Compensation Arrangements, which states that CFA Institute members must not accept any “compensation… that competes with or might reasonably be expected to create a conflict of interest with their employer’s interest” without written consent. Stansfield’s appearances at the comedy club did not interfere or compete with his day job at PAM, and he normally received tips that were minimal in value.


    This case is based on facts provided by Tanuj Khosla, CFA, CAIA
     
    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.

     
  • Ethics in Practice: Oh No! Accidental Facebook Post

    02 Mar 2018
    28
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 14)
    John Walsh, CFA, is the Chief Financial Officer of TrueTech Corporation, a leading semiconductor manufacturer in the United States. For the past few months, Walsh has led the TrueTech team in talks to buy a majority stake in Veridy Corporation, a smaller, privately owned semiconductor company that has a patented technology that could potentially cut the chip manufacturing costs of TrueTech by almost 40%. After intense negotiations, TrueTech is able to close the deal with Veridy late on a Friday night. Walsh wants to share the good news with his wife, so he takes out his phone and types “Finally! TrueTech has acquired a majority stake in Veridy. The deal is sealed!” But instead of sending the message to his wife, he accidentally posts it on his personal Facebook page. The next morning (a Saturday), he wakes up and discovers the blunder. Did Walsh violate any part of the CFA Institute Code of Ethics or Standards of Professional Conduct?
    1. No, this was an honest mistake.
    2. Yes, but Walsh does not need to do anything to rectify the matter because the posting was unintentional.
    3. Yes, Walsh should immediately disclose his actions to TrueTech and Veridy.
    4. Yes, Walsh should post the merger information on the company website and make a public announcement about the transaction.
    ANALYSIS
    This case is involves Standard IV(A): Duties to Employers – Loyalty, which states that CFA Institute members must not “divulge confidential information or otherwise cause harm to their employer.” Even though his action was unintentional, Walsh violated his duty of loyalty to his employer because he disclosed confidential information about TrueTech outside the company. The honest mistake does not exonerate him from violation. Walsh is also in danger of violating Standard II(A): Material Nonpublic Information, which states that CFA Institute members must “not act or cause others to act” on material nonpublic information. Walsh inadvertently leaked material nonpublic information to the select group of people who are his friends on Facebook. But there is no indication from the facts given that any of Walsh’s Facebook friends who received the merger information tried to take advantage of that information. Walsh should take steps to attempt to rectify his mistake. Although Walsh should notify TrueTech and Veridy of his error, that does not go far enough. The most appropriate course of action is for Walsh to publicly disseminate the news of the merger as quickly as possible so that the information is available to all investors. Answer D is the best choice.
    This case was written by Tanuj Khosla, CFA, CAIA, and the facts are not based on any particular case.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Performance, Footnotes and Benchmarks.

    22 Feb 2018
    39
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 13)

    Howard Young is CEO, portfolio manager, and sole owner of Stewardship Investment Advisers (SIA), a registered investment adviser with more than $154 million assets under management and over 250 discretionary accounts. For several years, Young has distributed marketing materials to clients and potential clients that contain gross-of-fee performance for returns on SIA’s managed portfolios. Young believes that gross-of-fees calculations are the most relevant because management fees are negotiable and can vary by client. Young includes a footnote at the end of the brochure disclosing that advisory fees would have to be netted out to show actual performance. The marketing material also includes a table that compares percentage increases in the S&P 500 Index with percentage increases in SIA’s performance. SIA’s performance includes the reinvestment of dividends. Young believes that the S&P 500 is the most appropriate and understandable benchmark because it is commonly reported in the financial press and recognizable by his clients. Has Young engaged in misconduct by using gross-of-fee returns or showing the S&P 500 performance? Join the conversation and tell us what you believe is the correct answer and use the Ethical Decision-Making Framework to help explain your choice.
    1. Young is guilty of misconduct in showing gross-of-fee performance.
    2. Young is NOT guilty of misconduct in showing gross-of-fee performance.
    3. Young is guilty of misconduct in providing the S&P 500 as a benchmark.
    4. Young is NOT guilty of misconduct in providing the S&P 500 as a benchmark.
    ANALYSIS 
    This case involves the presentation of performance history. CFA Institute Standard III(D): Performance Presentation states that “when communicating investment performance information, members must make reasonable efforts to ensure that it is fair, accurate, and complete.” The goal is to provide credible performance information to clients and prospective clients and to avoid misstating performance or providing misleading performance information. Absent legal or regulatory provisions prohibiting such conduct, presenting gross-of-fee performance results is acceptable as long as there is clear disclosure that relevant fees must be deducted to get the actual performance history. It is unclear from the facts presented whether Young’s footnote is prominent or clear enough to be sufficient to meet this standard. Best practice would be to present both gross-of-fee and net-of-fee performance histories, or in some other way, prominently show the effect of the fees so that the performance information meets the “fair, accurate, and complete” requirement of Standard III(D).
    Similarly, presenting a table that includes the S&P 500 performance as a benchmark for returns may be appropriate under certain circumstances. But when it is used as a benchmark for firm performance history that includes reinvested dividends, as in this case, it would not be an “apples-to-apples” comparison and would likely be misleading because the S&P 500 performance history does not include reinvested dividends. If Young wants to use the commonly reported S&P 500 returns over time as his benchmark, he should ensure the SIA’s returns are calculated in a comparable way. At minimum, there should be prominent disclosures of any differences between the benchmark’s and the firm’s returns. It is unclear from the facts presented whether Young has made the necessary disclosures regarding the benchmark. So, to judge whether there has been any misconduct, a thorough examination of the presentation material would be necessary to determine whether Young is presenting performance that is fair, accurate, and complete or whether his presentation misstates performance and is misleading.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Guilty or Not Guilty Is the Question!

    19 Feb 2018
    1158
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 12)
    Sunset Financial Services is a broker/dealer that has historically sold mutual funds and insurance products to individual investors. In 2011, the firm began selling private placements to clients as well. Norma Desmond, vice president of Sunset, is responsible for conducting due diligence on the private placements and placing them on an approved list that Sunset investment advisers can view on the firm’s internal website. Desmond relies on third-party due diligence reports to assess the viability and appropriateness of the private placements for Sunset’s clients. Tom Gillis is one of Sunset’s investment advisers that reviews the internal list of approved private placements and sells several of these investments to his clients. Gillis does not create any sales materials for these private placements but instead relies on sponsor-created sales materials to give to his clients. Has Desmond or Gillis engaged in any misconduct? Join the conversation and tell us what you believe is the correct answer and use the Ethical Decision-Making Framework to help explain your choice.
    1. Desmond is guilty of misconduct in selecting the private placements for Sunset to sell.
    2. Desmond is NOT guilty of misconduct in selecting the private placements for Sunset to sell.
    3. Gillis is guilty of misconduct in providing sponsor-created sales material to clients.
    4. Gillis is NOT guilty of misconduct in providing sponsor-created sales material to clients.
    ANALYSIS
    The Ethical Decision-Making Framework includes questions — such as What is the ethical issue involved? To whom is a duty owed? What are the important Facts? — that help investment professionals analyze situations from an ethical standpoint. The ethical issue involved in this case for both Desmond and Gillis relate to diligence and reasonable basis. Desmond bases her evaluation of private placements on third-party due diligence reports without conducting the analysis herself. Gillis gives sponsor-created sales material to clients without producing his own information on the private placements for his clients. Both Desmond and Gillis owe a duty to the clients of Sunset Financial to act with diligence and reasonable basis in investigating the private placement investments and recommending them to clients. CFA Institute Standard V(A): Diligence and Reasonable Basis states that CFA Institute members “must exercise diligence, independence, and thoroughness in analyzing investments, making investment recommendations, and taking investment actions.” Determining whether Desmond and Gillis met their responsibilities under Standard V(A) requires examining the relevant facts.
    In this case, not much background is provided, making it difficult to tell whether either engaged in misconduct. It is acceptable for Desmond to rely on third-party due diligence reports to evaluate investments as long as she take steps to ensure those reports are from a reputable source and have a reasonable and sound basis. It is not clear what steps Desmond took to evaluate the quality of the third-party due diligence provider. Without a critical evaluation of the third-party due diligence provider, she may have violated Standard V(A). Similarly, it is acceptable for Gillis to rely on Desmond to fulfill her responsibilities to conduct thorough due diligence of potential client investments. Gillis can assume that investments listed on Sunset’s approved private placement list have been thoroughly vetted by the firm through Desmond without having to go back and conduct the due diligence himself unless he has reason to question the validity of the process. It is also not necessarily improper for Gillis to rely on sponsor-created marketing material to provide information to clients, as long as Gillis, compliance, or other personnel at Sunset have thoroughly reviewed the material to ensure that it meets all applicable disclosure requirements and contains no misrepresentations. If Gillis simply forwards the material to clients without such a review, then he could be violating his duty of diligence to clients by potentially disseminating inaccurate or misleading materials to clients. Because of the lack of information provided in the case, an argument could be made that under certain circumstances, any of the responses could be chosen.

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Firm's Funds Are Best Investment, Right? 

    13 Feb 2018
    109
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 8)

    Miriam works as an investment adviser for JVC Wealth Managers. JVC provides wealth management services to high-net-worth clients through discretionary, diversified, risk-adjusted investment management accounts that hold positions in both mutual funds and hedge funds. On average, Miriam has invested 74% of her clients’ mutual fund assets and 63% of her clients’ hedge fund assets in JVC proprietary funds, earning JVC and its affiliates additional fees. Miriam’s actions are
    1. acceptable because clients hiring JVC as an investment manager should expect that the firm will prefer investing in its own funds.
    2. acceptable if Miriam indicates her preference for investing client assets in JVC proprietary funds.
    3. unacceptable if there are non-proprietary mutual funds and hedge funds that meet the clients’ investment needs.
    unacceptable because the additional fees earned by JVC violate the duty of loyalty, prudence, and care that Miriam owes to her clients.

    ANALYSIS
    This case involves a potential conflict of interest for Miriam between providing cost efficient investment vehicles for her clients and selling her employer’s investment products. CFA Institute Standard VI(A): Disclosure of Conflicts states that CFA Institute members “must make full and fair disclosure of all matters that could reasonably be expected to impair their independence and objectivity” or interfere with their duties to their clients. Best practice is to avoid conflicts of interest if possible, otherwise mitigate the conflict of interest through the disclosure called for in Standard VI(A). Although the additional fees earned by JVC from selling proprietary funds present a potential conflict, the fees do not automatically violate Miriam’s fiduciary duty to her clients (Answer D). It is possible that those proprietary funds are the best and most appropriate investment vehicles for Miriam’s clients even with the additional fees. But because there is a potential conflict of interest, Miriam must clearly disclose those fees “such that the disclosures are prominent, are delivered in plain language, and communicate the relevant information effectively” according to Standard VI(A). And although Answer C is based on the existence of alternative non-proprietary mutual funds, that response does not say that those funds are superior to JVC funds or have lower costs. Assuming that the clients understand that Miriam, who works for JVC, will sell JVC products at every opportunity, is not sufficient (Answer A). The best answer in this case is Answer B, which calls for Miriam to disclose the conflict. This disclosure should be made at the outset of the relationship and address what investment vehicles will be used by JVC along with their costs.

    This case is based on a 2015 US SEC Enforcement action.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: To Refer or Not Refer?

    09 Feb 2018
    160
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 3)

    Raphael, an investment adviser for Enright Financial Solutions (EFS), enters into an understanding with a friend who is a lawyer regarding the referral of clients. Raphael will refer EFS clients needing legal services to the lawyer in return for the lawyer recommending clients needing financial advisory services to Raphael and EFS.  This arrangement is
    1. acceptable since there are no payments involved.
    2. acceptable as long as the lawyer discloses the arrangement to the clients he refers to Raphael.
    3. acceptable as long as EFS is aware of Raphael’s agreement with the lawyer.
    4. unacceptable.
    Analysis
    This case deals with a mutually beneficial referral arrangement whereby service professionals refer clients to one another. Although such an agreement is not necessarily unethical and may ultimately be beneficial for the clients, there is a potential for a conflict of interest that must be disclosed. CFA Institute Standard VI(C): Disclosure of Conflicts, Referral Fees requires members to disclose to the employer, clients, and prospective clients “any compensation, consideration, or benefit received from or paid to others for the recommendation for products of services.” This disclosure allows both clients and the employer to evaluate any partiality shown in the recommendation of services and the full cost of those services. Although there is no money changing hands between Raphael and his friend, there is mutual consideration and benefit. The fact that no money is exchanged would not preclude disclosure (Choice A). Choice B addresses the disclosure issue but places the onus of disclosure on the lawyer and not on Raphael. Standard VI(C) requires Raphael to disclose the referral arrangement to any clients he refers to the lawyer and any potential clients referred to him by his friend. Choice C also addresses the disclosure issue by correctly stating that Raphael must disclose the arrangement to his employer. But this does not go far enough because Standard VI(C) requires disclosure to be made to clients, prospective clients, AND the employer. Does Raphael disclose any information about the arrangement to this clients or EFS? The facts of the case do not mention that he made the appropriate disclosure. The CFA Institute Ethical Decision-Making Framework calls for you to identify all relevant facts before making a decision.  Assuming Raphael made no disclosure to his clients or employer, this arrangement would be unacceptable (Choice D).

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Taking Care of Clients Is the Priority

    08 Feb 2018
    96
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 11)
    Dougal McDermott is president of Enhanced Investment Strategies (EIS), a small investment firm. Most clients of EIS are longtime associates of McDermott who have had their investment portfolios with EIS for decades. Because of his close personal relationship with his clients, McDermott is very familiar with their investment profile, income and retirement requirements, and tolerance for risk. He keeps abreast of the life changing events (such as health issues, real estate purchases, children’s university expenses, and retirement) of all his clients and adjusts their portfolios accordingly. McDermott regularly meets with his clients in EIS offices and sees them on numerous occasions outside the office where he has a chance to give them an update on their investments. EIS clients complete a client agreement and risk profile when opening their account and those profiles are updated as McDermott finds the time to do so. McDermott’s business practices are
    1. acceptable because he adjusts client investments to ensure that they are suitable for client investment needs given their changes income and risk profile.
    2. acceptable because he regularly communicates with clients about their investments.
    3. unacceptable because he does not keep adequate written records regarding client investment profiles.
    4. unacceptable because his close personal relationship with clients will affect his independence and objectivity when providing investment advice.
    ANALYSIS
    The issue in this case involves record keeping. CFA Institute Standard V(C): Record Retention states that CFA Institute members must “develop and maintain appropriate records to support their investment analyses, recommendations, actions, and other investment-related communications with clients and prospective clients.” The facts make clear that McDermott is personally close to clients. Although this fact may raise fair dealing concerns (McDermott may be benefiting some clients with whom he has a particularly close personal relationship over other clients), it does not necessarily raise questions about the independence and objectivity of McDermott’s investment advice (Answer D). It also appears from the facts provided that McDermott is fulfilling his ethical obligations as an investment manager by communicating regularly with his clients (Answer B) and reviewing and adjusting client portfolios on a timely basis to meet clients’ changing financial circumstances (Answer A). But McDermott only updates client records “when he finds the time to do so” and apparently not promptly or on a regular basis. Without necessary, relevant, and up-to-date know your client information, it would be difficult, if challenged, for McDermott to establish and prove that EIS identified the needs and circumstances of the clients and has taken these into account in recommending investments. When client circumstances, investment goals, risk tolerances, or income needs change, records should be promptly updated and reviewed on a regular basis to reflect and document these changes. The correct answer is C.
    This case is based on an UK Financial Services Authority enforcement action from 2010.

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: What I Do for Investment Success!

    07 Feb 2018
    336
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 6)

    Svetlana works for a publishing company writing an online financial newsletter that describes her investment philosophy and identifies intriguing investment opportunities. She is paid a salary plus incentive bonuses for every new subscriber. Svetlana routinely states that she makes $5,000 in investment returns every week, and that if readers followed her advice, they could too. Svetlana often includes success stories from readers, including the story of a reader who turned $200 into $1 million in six months using Svetlana’s investment techniques. Svetlana’s actions are
    1. acceptable because subscribers to her newsletter are not clients.
    2. acceptable because she is not guaranteeing investment success.
    3. unacceptable unless she includes stories of readers who followed her investing philosophy and were not successful.
    4. unacceptable if the investments are unsuitable for her subscribers.
    Analysis
    This case involves potential misrepresentation. CFA Institute Standard I(C): Misrepresentation states that members “must not knowingly make any misrepresentations relating to investment analysis, recommendations, actions, or other professional activities.” This includes statements relating to past investment performance history. Does Svetlana misrepresent her past performance record and the success of her investments? That is not clear. Her statements regarding her weekly investment returns and the success stories of readers who follow her advice may be true. More facts are necessary. Assuming those statements are true, it is irrelevant whether she is making the statements to clients, potential clients, subscribers to her newsletter, or the investing public. Standard I(C) prohibits any misinformation regardless of the audience, so answer A is not correct. There is also no requirement that Svetlana include statements in her articles that counterbalance her claims (Answer C). It would be up to the interested person to inquire more deeply about her performance record to gauge its veracity. Svetlana would be required to respond truthfully to probing questions, such as “how many readers using your investment techniques have lost money?” And because there is no investment advisory relationship between Svetlana and those who may read her articles, she is not required to conduct a suitability analysis of the investments for anyone reading her newsletter (Answer D). (Although best practice would dictate that Svetlana include some general cautionary language in her articles recommending that readers ensure any investments they make are suitable to their financial goals, constraints, and circumstances). Finally, Standard I(C) prohibits members from guaranteeing clients any specific return on investments because most investments contain some element of risk that makes their return inherently unpredictable. But Svetlana does not provide guarantees because she qualifies her statements about expected performance by asserting that readers following her investment philosophy “could” earn regular returns; she doesn’t guarantee that they will. Answer B is correct.
    This question was based on facts from a CFA Institute Professional Conduct enforcement action.
     

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     

     

     
     
  • Ethics in Practice: Buying and Selling at Same Time OK?

    05 Feb 2018
    133
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    Case (Week 4) 
    Meyers Associates is an investment firm providing both advisory and investment banking services. One of Meyers investment banking clients, IWEB (which manufactures and markets data storage products and cloud based software), wants to raise its stock price to facilitate a private offering, for which it will be using Meyers as its placement agent. George works for Meyers Associates as an investment adviser. To assist IWEB with its plans, George solicits several of his advisory clients to buy IWEB stock, and at the same time solicits other clients to sell IWEB stock, frequently effecting matched orders among his customers. For a 10-day period, these trades represented 48% of the total market volume of IWEB, and the price of the stock increased from $0.12 to $0.19 and then stabilized at $0.18 for the next several days. George’s actions are
    1. acceptable if the purchase and sale of IWEB stock fit within each of his advisory clients’ Investment Policy Statements (IPS).
    2. acceptable because he was acting to promote the interests of his client, IWEB.
    3. acceptable as long as he discloses to his advisory clients Meyer Associates’ investment banking relationship with IWEB.
    4. unacceptable.

    Analysis
    This case is about market manipulation. Market manipulation damages the interests of all investors and lowers investor confidence in capital markets by disrupting the smooth functioning and efficiency of those markets. CFA Institute Standard II(B): Market Manipulation prohibits members from “engaging in practices that distort prices or artificially inflate trading volume with the intent to mislead market participants.” George’s trading of IWEB stock for clients is distorting both the trading volume and the market’s price-setting mechanism for that stock for the purpose of misleading investors in IWEB stock. George engages in the trading to assist IWEB with its private offering, not to benefit his advisory clients. Therefore, even if the trades fit within the respective IPS of his clients, the trading is unethical, making choice A incorrect. One element of the CFA Institute Ethical Decision-Making Framework is identifying to whom a duty is owed. Oftentimes, there are conflicting duties that must be sorted out. Although George is attempting to benefit one client (IWEB) through the trading, he cannot do so at the expense of his advisory clients because he has a duty to all his clients to treat them fairly. And although investment professionals have a duty to work on behalf of clients, they have a greater duty to protect the integrity of financial markets. Engaging in market manipulation, even to assist clients, is unethical, making choice B incorrect. Choice C is also incorrect. While oftentimes investment professionals can mitigate conflicts of interest through disclosure, disclosure of the potential conflict in working for IWEB in an investment banking capacity, does not allow George to use his advisory client accounts to engage in market manipulation. George’s actions are unacceptable, choice D. (This case is based on a Financial Industry Regulatory Authority (FINRA) enforcement case from 2016.)

     Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Using Erasable Ink Is Fine, Right?

    05 Feb 2018
    321
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 5)
    Huang is a newly hired client account representative for GWC Asset Management, an investment adviser for high-net-worth clients. Part of Huang’s responsibility is to assist each new client complete the extensive documentation needed to open an account. These documents give GWC access to client assets and the discretion to trade on behalf of the client. Because Huang is new to GWC, he is not completely familiar with firm procedures and is afraid of making mistakes with the documents. He uses erasable ink in completing the documentation so he can easily fix any mistakes without having to go back to the client for additional signatures. Huang’s actions are
    1. unacceptable under any circumstances.
    2. unacceptable unless disclosed to the clients.
    3. acceptable because he is providing efficient client service.
    4. acceptable if GWC is aware of this practice.
    ANALYSIS
    This case involves the duty of loyalty to both clients and employer. By using erasable ink, Huang is rendering the key client documents changeable and thus unreliable. Once signed, anyone with access can go back and alter the terms or provisions of the documents. CFA Institute Standard III(A): Loyalty, Prudence, and Care requires members to “act with reasonable care and exercise prudent judgment” and “act for the benefit of their clients.” Using erasable ink for legally binding financial documents does not constitute reasonable care and prudent judgment, and it potentially causes harm to the clients. Even if Huang engages in this conduct to try to provide efficient client service (Choice C), he is really trying to protect his own interests and make his job easier while opening the client up to potential harm. Even if he discloses to clients that their documentation can be changed after the fact, he (or anyone with access to the documents) would still have free rein to make any changes. Huang must get client permission regarding the specifics of any changes to these important legal documents to make them effective, making Choice B incorrect. It is irrelevant whether his employer, GWC, is aware of and acquiesces in the practice because the harm to the client remains (Choice D). In fact, engaging in this conduct without the knowledge of GWC would be a violation of CFA Institute Standard IV(A): Duties to Employers – Loyalty, which prohibits member form causing harm to their employer. Huang’s actions, if discovered, would cause great reputational damage for GWC with both the regulator and clients because the firm would have to go back through the process to redo all documentation. Finally, even if a client was aware of and gave permission to use erasable ink (or otherwise gave Huang or GWC permission to make changes to their documents without informing the client of what those changes were going to be), engaging in this conduct would make these documents ineffective and of no value. Huang would be violating the CFA Insitute Code of Ethics that requires members to act with integrity, competence, and diligence. Therefore, using erasable ink for client documents is inappropriate under any circumstances (Choice A).

    This case is based on facts provided by Nick Pollard, Managing Director of Asia Pacific for CFA Institute, gathered from his industry experiences.

     
     Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Just Being a Shrewd Investor.

    04 Feb 2018
    283
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 7)

    Sung Kook “Bill” Hwang is the founder and lead portfolio manager of Tiger Asia Partners (TAP) and Raymond Park is a trader for the firm. TAP is participating in private placements for both Bank of China and China Construction Bank stock, and the placement agents shared confidential information with Hwang and Park about both companies. In the days prior to the private placement, Hwang directed Park to make short sales in each stock. TAP earned $16.2 million by using the discounted private placement shares they received to cover the short sales. Park’s actions were
    1. acceptable because he was following the orders of his superior.
    2. acceptable because he used a short position rather than trading in the bank stock itself.
    3. acceptable if the placement agents did not require a confidentiality agreement covering information about the private placements.
    4. unacceptable because the trade was based on material nonpublic information.
    ANALYSIS
    This case relates to trading based on material nonpublic information (MNPI). CFA Standard II(A): Material Nonpublic Information prohibits members who have MNPI that could affect the value of an investment from acting or causing others to act on that information. Hwang and Park received MNPI about the bank stocks from the placement agents as part of the offering process. Park is not exempted from the requirements of the standards simply because his boss directs that he violate laws or ethical standards, so answer A is not correct. Park should have advised Hwang that the actions he was being asked to take were unethical and likely illegal and refused the directive to trade. The prohibition on using MNPI goes beyond the direct buying and selling of individual securities and extends to any related derivatives (e.g., swaps or option contracts), mutual funds, other alternative investments, so answer B is not correct. It would have been advisable for the private placement agents to ask Hwang and Park to sign a confidentiality agreement, establish a “fire wall” around the disclosure of that information, and agree not to trade on the information. But even absent such an agreement, Park is prohibited from trading on MNPI, therefore C is incorrect. Because the trading was based on MNPI, the trade was improper and Park’s conduct is unacceptable — answer D.

    This case is based on an enforcement action by both the US SEC and the Securities and Futures Commission of Hong Kong.


    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Ethics in Practice: Personal vs. On-the-Job Investments.

    04 Feb 2018
    263
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 9)
    Yang is a research analyst at BAMCO, a registered broker/dealer and investment adviser. While employed with BAMCO, Yang established Prestige Trade Investments Limited and acts as that firm’s investment adviser. Yang is responsible for formulating Prestige’s investment strategy and directs all trades on behalf of Prestige. Over the course of several days, Yang purchases 50,000 shares of Zhongpin stock and 1,978 Zhongpin call options for his personal account at BAMCO. Shortly thereafter, Yang uses $29.8 million of Prestige’s funds to purchase more than 3 million shares of Zhongpin stock. Yang’s actions are
    1. acceptable because Yang’s personal investments are not in conflict with the investment advice being given to his clients at Prestige.
    2. acceptable as long as BAMCO is aware of and consents to Yang establishing and working for Prestige as a separate entity.
    3. acceptable as long as Prestige clients are not negatively affected by Yang’s prior purchase of Zhongpin securities through his account at BAMCO.
    4. unacceptable.
    ANALYSIS
    This case involves an investment adviser “front-running” client trades. Front-running involves trading for one’s personal account before trading for client accounts. In this case, Yang purchased Zhongpin stock and call options in his personal account at BAMCO before directing the Zhongpin trades of clients at Prestige. Standard VI(B): Priority of Transactions states that “investment transactions for clients…must have priority over investment transactions in which a [CFA Institute] member…is the beneficial owner.” Yang’s personal investments are tracking with his client investments so there is no conflict between his personal trading and the investment actions/advice for clients. But the timing of the trades is what is at issue in this case, making answer A incorrect. Also, the fact that Prestige clients are not harmed by Yang’s earlier trades for his personnel accounts does not make his actions acceptable. The issue is Yang’s personal benefit derived from trading before his clients, which makes Answer C incorrect. Disclosure is not a cure for front-running. So, even if Yang had told Prestige clients that he would be making personal trades prior to taking investment action on their behalf that would benefit him, the trading in his personal account would not be acceptable. Yang would have to get permission from BAMCO to create and work for Prestige, according to CFA Institute Standard IV(A): Loyalty, but such permission does not allow Yang to engage in unethical activity while at Prestige, making Answer B incorrect. That leaves Answer D as the best answer. This case is based on a SEC enforcement action from 2014.

    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
     
  • Ethics in Practice: Futures, Feed Yards, and Furtive Actions

    01 Feb 2018
    30
    0

    If the headline above sparked your interest, you are one of the thousands of honest, ethical, and well-meaning investment professionals who want to do the right thing when it comes to fulfilling your professional responsibilities. But sometimes the proper course of action is not always straightforward and obvious. To help with those situations, CFA Institute provides guidance through its Code of Ethics and Standards of Professional Conduct (Code and Standards) as well as an Ethical Decision-Making Framework. But just as you need to practice to become proficient at playing a musical instrument, public speaking, or playing a sport, practicing assessing and analyzing situations and making ethical decisions develops your ethical decision-making skills. To promote “ethical exercise,” we are excited to introduce Ethics in Practice.

    Each week, we will post a short vignette, drawn from real-world circumstances, regulatory cases, and CFA Institute Professional Conduct investigations, along with possible responses/actions (see below). Later in the week, we will post an analysis of the case and you can see how your response compares! Stay tuned!

    We then encourage you to assess the case through the lens of the Ethical Decision-Making Framework and the Code and Standards and let us know which of the choices you believe is the right thing to do and why by using the comment field below.

    CASE (Week 10)

    Rosenthal Collins Group (RCG) is a registered futures commission merchant with a number of branch offices, including one in Memphis, Tennessee. Phillips is hired to be the branch manager of the Memphis office, supervising a number of employees, including Lewis. Phillips allows Lewis to work from home, and as a result, Lewis has no physical office in the Memphis branch of RCG or even access to the building. Unknown to Phillips or RCG, Lewis also works for another futures commission merchant (AFCM). Lewis arranges swap agreements for AFCM, including orders with several cattle feed yards. And through another employee at RCG, he helps open new futures accounts for the feed yards RCG represents. Although the other employee at RCG receives all the commissions for the feed yard accounts, she surreptitiously splits these commissions with Lewis. This commission sharing arrangement is also unknown to Phillips. Phillips actions as a supervisor are
    1. acceptable if RCG did not develop adequate policies and procedures for the detection and deterrence of possible misconduct by its employees.
    2. acceptable if Phillips was not provided adequate training from RCG on its compliance policies and procedures.
    3. acceptable if the RCG home office conducted regular audits of the Memphis branch.
    4. unacceptable because Phillips did not diligently perform his supervisory responsibilities.
    ANALYSIS
    This case is about adequately exercising supervisory responsibility. CFA Institute Standard IV(C): Responsibilities of Supervisors states that “[CFA Institute] members must make reasonable efforts to ensure that anyone subject to their supervision or authority complies with applicable laws, rules, regulations, and the Code and Standards.” At a minimum, supervisors must make reasonable efforts to detect and prevent legal, regulatory, and policy violations by ensuring that effective compliance systems have been established. They must also understand what constitutes an adequate compliance system and make reasonable efforts to see that appropriate compliance procedures are established, documented, communicated to covered personnel, and followed. Supervisors must alert their superiors and firm management if there is an inadequate compliance system in place and work with them to develop and implement effective compliance tools. If the absence of or inadequacy of the compliance system prevents effective supervisory control, an investment professional should decline to accept supervisory responsibility until the firm adopts reasonable procedures to allow the effective exercise of supervisory responsibility.
    If Philips knew that RCG had not developed adequate policies and procedures for the detection and deterrence of potential misconduct by RCG employees, it would be incumbent on him to bring this to the attention of RCG, help develop adequate compliance policies, or decline supervisory responsibility. In the absence of adequate compliance policies, it would not be acceptable for Phillips to act as branch manager. A lack of adequate policies would also not be an excuse for failing to detect potential misconduct by RCG employees, including Lewis, which means Answer A would not be correct. Similarly, if RCG did not properly train Phillips on RCG compliance policies that did exist, Phillips should decline supervisory responsibility until he adequately understands RCG policies and procedures and expectations for maintaining his subordinates’ compliance with those policies. Lack of training on how to supervise should not be an excuse for inadequate supervision but a catalyst to seek out that training, thus making Answer B not the right choice. A regular audit of the Memphis branch by RCG home office compliance personnel could be an excellent way to ensure that branch employees are complying with applicable law, regulations, and RCG policies. But it is not a substitute for effective and regular supervision by Phillips, the onsite branch manager, making Answer C incorrect. Although it is not clear from the case what steps Phillips did take to diligently exercise supervisory responsibility, the fact that Lewis worked from home and did not have access to the branch office, suggests that Phillip’s “hands on” supervision was minimal at best and obviously ineffective. Answer D is the best choice.
    This case is based on an enforcement action by the US Commodity Futures Trading Commission from 2014.
     
    Have an idea for a case for us to feature? Send it to us at ethicscases@cfainstitute.org.
  • Sustainability Bonds: Risks and Opportunities for Investors

    10 Dec 2017
    5872
    92

    Whether we’re talking about instruments that are formally designated as "green bonds" or unlabeled climate-aligned issuances that still fall under the environmental, social, and governance (ESG) umbrella, the demand for such sustainability-tied debt is rising. The green market can no longer be dismissed as a feel-good fad propped up by regulatory agendas. Although just a tiny sliver (less than 1%) of the roughly US$100 trillion global bond market, sustainability bonds, which include labeled and unlabeled green bonds as well as social bonds, offer a viable way forward for a wide-reaching cadre of constituents (e.g., banks, investors, governments, and corporations) looking to fund environmentally favorable projects, and to do so at a profit.

    The size of the market for global labeled green bond issuances increased to US$81.6 billion in 2016, nearly double the amount issued the year before. China led this increase, accounting for more than a quarter of the 2016 total. The primary market may not be a place to hunt for juicy spreads, but pricing signals in the burgeoning secondary market tell a different story, suggesting that alpha can be gleaned from all that green.

    By Rich Blake. Rich, a CFA Institute contributor, is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News, and Institutional Investor.
    -------------------------------------------------------------------------------------------------------------------------------------
     
  • Family Controlled Firms in APAC: 10 Focus Areas for Investor Due Diligence

    07 Nov 2017
    15505
    131

    CFA Institute has recently released a 112-page report Corporate Governance far Asian Publicly Listed Family-Controlled Firms which identifies the strengths and challenges of the publicly listed family firm model in Asia. The full report is available at: https://www.arx.cfa/post/Corporate-Governance-for-Asian-Publicly-Listed-Family-Controlled-Firms-Full-Report-4229.html

    The report is aimed at institutional and retail investors and outlines areas to focus due diligence when investing in family-controlled companies in Asia.

    In the attached guide we take highlights from the report to identify the top 10 issues that investor may encounter when investing in family firms and offer steps to mitigating those risks.
     
  • Practitioner's Brief: Friction Key to Exploiting Stock Market Inefficiencies

    Tom Berry    Söhnke M. Bartram, Mark Grinblatt
    29 Oct 2017
    2817
    0

    WHAT IS THE INVESTMENT ISSUE?
    The paper is one of a handful that seeks to address why some markets are less efficient than others. Although it is conventional wisdom, this premise is not universally accepted.

    Some academic research papers support the concept that developed markets are no more efficient than emerging markets. Authors Bartram and Grinblatt dispute this. Others have argued that investors rely too heavily on Fama’s Efficient Market Hypothesis (EMH)—that is, that stocks always trade at their fair value—rendering any effort to profit from mispriced stocks an exercise in futility.

    On the one hand, the authors ask, if no one can ever profit from active management, then what magical force exists to drive prices to fair value? They argue that a passive investor will buy the index fund, whatever the prices of its component parts. Active managers, who have performed relatively poorly of late, may well have another cycle to show off their talents—and so will want to take note of where and when mispricings and market inefficiencies cross paths.

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    Bartram, of the University of Warwick, and Grinblatt, of UCLA, began their work by going through a database of company financials that went back more than two decades to capture all the information about the companies that would have been known at the time.

    They constructed a robust set of synthetic portfolios—nearly 26,000 stocks from three dozen countries—to theoretically trade on mispriced companies, with a few unique layers of variables to provide reality checks. Trading signals, suggesting a clearly identifiable deviation of a stock’s price relative to its estimated fair value, were built using international point-in-time accounting data covering 21 company-specific metrics. Trading activity was replicated with transaction cost data from Elkins McSherry, the gold standard for tracking such expenses.

    Transaction cost data included explicit commissions and fees as well as harder-to-quantify market impact costs. These costs were converted to alpha reductions using portfolio-turnover approximations, that is, two-way turnover.

    WHAT ARE THE FINDINGS?
    The results of running the mispricing replicating portfolios (and incorporating simulated buy/ sell executions) were definitive: Emerging and certain developed Asian markets were shown to be relatively less efficient in countries with quantifiable market frictions—particularly trading costs—that deter arbitrageurs. “If profits to trading strategies based on mispricing estimates are a measure of market inefficiency, then profits should vary across countries as a function of transaction costs, short sales restrictions, and other country characteristics that might influence limits to arbitrage, thereby impeding the process that makes a country’s stock prices reflect fair value.”

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    In regions where markets are most efficient, Bartram and Grinblatt caution that investors need to be aware of the costs of active management, noting that it is unlikely the fees associated with active management will outweigh its value. A caveat here, though, is that the data studied were annual accounting data. Conceivably, some improvement in the alpha may be generated by the strategy, even in the most efficient global markets, when using quarterly data. And there’s a catch as well: The least efficient markets, where the alpha opportunities may be the largest, can easily be eroded by those frictions—in other words, super-sophisticated investors are steering clear for good reason.
     
  • Corporate Governance for Asian Publicly Listed Family-Controlled Firms - Executive Summary

    Tom Berry    Tony Tan, DBA, CFA, Fianna Jurdant
    18 Jul 2017
    3659
    0

    EXECUTIVE SUMMARY
    Good corporate governance is increasingly considered one of the prime drivers of business success. Through transparency, equitable treatment of all shareholders, and a robust system of sound practices and procedures, good corporate governance can enhance performance and growth, both in the individual firm and at the national level.

    A solid corporate governance framework is particularly important for family firms, which face unique challenges as they balance the advantages and disadvantages of family involvement in the business.

    Based on an analysis of 56 family-controlled listed companies in 14 jurisdictions,* the CFA Institute report, Corporate Governance for Asian Publicly Listed Family-Controlled Firms, identifies opportunities to enhance corporate governance structures for family firms in the region. The report reveals how effective corporate governance can help these companies—and the regions in which they operate—continue to achieve economic success.

    FAMILY FIRMS AS THE DRIVERS OF ASIA’S FUTURE GROWTH
    Over the last few decades, Asian family firms have played a pivotal role in fueling the region’s economic growth, and their influence will continue to rise. By 2025, the number of firms in Asia with revenue exceeding USD1 billion is expected to be nearly equivalent to that in developed economies globally. Family firms will represent 75% to 80% of those entities.
    However, the growth of Asian economies in recent decades has been largely propelled by low labor and production costs. As the performance of Asian economies begins to mirror that of developed economies, their future capacity for growth will not be sustainable if they are competing on cost alone. To remain competitive, Asian family firms must innovate, expand outside of traditional markets, and professionalize, which will necessitate the tapping of global talent and capital. This will put pressure on these firms to have a corporate governance structure in place that can meet international standards and investor expectations.

    CHALLENGES FOR ASIA’S FAMILY FIRMS
    Challenges of Internationalization
    Between 2000 and 2010, the total market capitalization of Asian family firms grew significantly. A major driving force behind this was an entrepreneurial desire among Asian family firms to use capital market funding to expand in new markets, with the number of listed family firms increasing 62%. As more family firms use capital markets to fund their internationalization plans, they will face the challenge of developing sound corporate governance frameworks that meet the needs of the heightened regulatory environment and the scrutiny that comes with being listed.

    Challenges of Professionalization
    Although Asian family firms prefer to pursue family-management succession plans, many recognize the need to capitalize on external talent to meet future business pressures. Efforts to professionalize a family firm, however, may be double-edged.

    On the one hand, professionalization might boost a firm’s effectiveness. On the other hand, professionalization might give rise to additional agency costs, such as the need to offer incentives to align the interests of professional management with those of family members. If a family firm is to realize the benefits of bringing in external talent, then that incoming management will need the freedom to do the job for which they were hired. Defining an optimal equilibrium between family culture and external professionalism is therefore imperative to facilitate future value creation without incurring greater expenses.

    Challenges of Dispersed Ownership
    The average percentage of family ownership of large-size family firms in Asia is substantially lower than that seen in their European and North American counterparts. This implies increased ownership diversity, which can result in two major issues. First, with a widely dispersed minority ownership structure, the entity is potentially exposed to greater majority/minority owner conflicts. Second, Asian family owners who wish to expand their businesses while still retaining control may rely more on creditors than on further equity dilution. This could potentially lead to greater shareholder/creditor conflicts. Family firms should develop corporate governance policies to address these concerns.

    WHERE CORPORATE GOVERNANCE CAN PLAY ITS PART
    Research is inconclusive on whether the family-firm construct enhances or diminishes corporate governance practices. In theory, the long-term horizon and closer alignment of principal-agency interest in family firms should improve corporate governance. However, those same features could prove problematic by increasing risk, whether as a result of a lack of transparency, entrenchment, or wealth expropriation from minority owners.

    A solid corporate governance framework is essential for family firms to effectively balance the advantages and disadvantages of family involvement in the business. Combining governance, management, and ownership in the hands of family can bring benefits, but this centralized decision-making structure inevitably brings risks. Sound corporate governance practices can help family firms include different perspectives on their boards, which can mitigate risks. Moreover, such practices can help family firms balance the interest of different stakeholders, a task essential to the long-term sustainability of these entities. As well, sound corporate governance practices can help family firms reduce their cost of capital and reduce capital waste, making them more attractive investment targets and more competitive entities.

    THE WAY FORWARD
    The complex challenges facing publicly listed family firms in Asia are influencing the underlying corporate governance frameworks of those firms. Through a holistic understanding of corporate governance features supporting firm performance and value across the region, these firms will be better able to address the difficulties they face and to thrive in the future. The development of policy recommendations that assist in enhancing the corporate governance practices of Asian publicly listed family firms will also increase protection for minority owners from wealth expropriation by the majority, controlling family owners.

    Learn more about how corporate governance can impact family firm value and success at www.cfapubs.org/toc/ccb/2017/2017/1.
     
  • Interest in ESG Investing Poised to Grow Further in Asia Pacific

    10 Jul 2017
    2399
    0

    • CFA Institute further extends ARX ESG Investing Series to Singapore to discuss motivations for ESG integration in the region.
    • Panelists from S&P Dow Jones Indices, City Developments Ltd., ADL Infra Capital Myanmar, and ESGuru spoke to a full house of CFA Institute members and local practitioners on developments in green finance.
    • Participants concluded that despite challenges, green finance would continue to attract investor interest; supply of green instruments needs to catch-up.
    • Social and governance considerations still in their infancy in the region.
    • The question of alpha potential inconclusive.
    Dr. Tony Tan, CFA, head, global society advocacy engagement at CFA Institute kicked off the May 11, 2017 lunch-time talk entitled ‘Is green finance a fad? Or does it possess alpha potential?’ The event, organized by CFA Institute and CFA Society Singapore follows the first of the ARX ESG Investing Series, hosted in Hong Kong. This series has been developed in response to demand for ESG-related research on research platform, Asia-Pacific Research Exchange (www.arx.cfa).
     
  • CFA Institute Officially Launches the Asia-Pacific Research Exchange

    25 Jun 2017
    537
    8

    Unveiled at a global launch event held in Hong Kong on June 20, 2017, the Asia-Pacific Research Exchange or ARX (www.arx.cfa), is a user-driven community hub that gathers scholarly papers, research reports, articles and blogs, conference presentations and datasets from both practitioners and academics.

    Commenting on ARX, Nick Pollard, Managing Director, APAC, CFA Institute, explained that: "We are responding to a need. With ARX, we provide a platform that allows people to share their knowledge and wisdom." He continued: "ARX is a community that supports the development of healthy capital markets. It is specifically dedicated to the Asia-Pacific investment management industry, promoting excellence and educating market participants.”

    During its soft-launch phase, ARX quickly caught the attention of CFA Institute members and charterholders, industry practitioners, and academics. Governments have also been using the platform, as have regulators. Indeed, the period leading up to the official launch has seen ARX accumulate 36 institutional contributors and over 2,500 research reports and articles. This early adoption supports the belief that ARX will become a catalyst for robust conversations about what is important in the Asian investment management industry.

    From a practical nature, ARX is also easy to use, with Scott Lee, Director, Asia-Pacific Research Exchange, guiding attendees through the site's key features. He also underlined the fact that ARX is a free service and registered users will gain unrestricted access to all content on the platform and be the first to hear about CFA Institute events.

    Scott also highlighted the success of the online-to-offline (O2O) capabilities of ARX, with contributors able to organize events around a particular piece of research. To this end, he introduced Hong Hao, CFA, Managing Director and Chief Strategist, Bank of Communications International, who took his widely read paper, Post-Brexit: How to Trade China, and presented it to CFA members at the first-ever ARX O2O event, held in Shenzhen in late 2016.

    Further evidence of the collaborative potential of ARX came from Esmond Lee, Senior Advisor, Hong Kong Financial Services Development Council (FSDC), who pointed out the strategic partnership that exists between his organisation and CFA Institute: "In the past few months, we have shared research and subsequently co-hosted a number of events that have explored topics such as compliance, green finance and ESG for state-owned enterprises."

    Turning to CFA Institute members and how it meets their particular demands, Yin Toa Lee, CFA, ARX Society Engagement Council and Representative of the Hong Kong Society of Financial Analysts (HKSFA), explained how he has used the service to successfully share his doctorate thesis with a wider audience than would otherwise have been the case: "In a short period, I have received several hundred views from a cross section of industry participants – both here in Asia and farther afield."

    To conclude, Mary Leung, CFA, Head, Standards & Advocacy APAC, CFA Institute, explored what happens next: "We are committed to improving the platform's features, and future developments will include public profiling, private messaging and discussion forums. Also, we are pursuing new strategic partnerships and plan to deepen levels of user engagement."
     
  • PRACTITIONER’S BRIEF:  Turn Seemingly Irrelevant Beta Into A Potentially Powerful Predictive Tool Using The Implied Cost Of Capital

    15 Jun 2017
    428
    0

    WHAT’S THE INVESTMENT ISSUE?
    Still widely considered as bedrock financial theory yet often criticized, CAPM is a simple, formal methodology to price securities. Its fundamental idea of systematic risk is reflected in all modern asset-pricing theory. Because math-based models are built on sets of assumptions (e.g., “markets are frictionless and efficient”) that may not always reflect reality, all models are, to some degree, suspect. Such models are still relevant, however, in trying to gauge the differences in risk premiums of individual stocks. CAPM dictates that beta is the solely relevant measurement of a given stock’s risk—its co-movement with the market—relative to the movements of the market as a whole.
    The foundation for asset-pricing theories such as CAPM is the Efficient Market (EM) hypothesis, which, over the years, has taken on water like the hull of a leaky boat. Skeptics, have poked holes in the EM hypothesis and cast CAPM in a contradictory light. Numerous studies have shown that beta, which came from CAPM, loses relevance when closely scrutinized. Shi and Xu are careful to set the stage by conceding from the outset that beta in and of itself exhibits weak power in explaining return differences of individual stocks. However, they also seek the source of this weakness: Could there be a glitch with standard “cross-sectional regression tests” that shows, when comparing one stock to another stock, statistical beta estimates to be overly noisy and/or limited measures of expected return? Might these backtests have a fundamental design flaw? And if so, is there a better proxy for expected return?
     
    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    With a long-horizon investing approach in mind, Shi and Xu assert that most beta-bashing research shares a common denominator: the use of short-term testing methods to demonstrate the inconsistency of beta patterns. A common example, they find, is inputting the next month’s realized return as a proxy for the (retroactively assigned) expected return. Shi and Xu believe that CAPM may be better suited to capturing the risk-return relation in the long-run. To refashion CAPM to achieve this goal, they create a new way to model longer-horizon expected returns in their tests by having the future Implied Cost of Capital (ICC) play the part of expected return. “ICC is in the same spirit as internal rate of return,” they write. “It is perceived average return over time even when actual future expected returns might be time varying.” To test their theory, the authors examine all U.S. public companies on major exchanges (stripping out financial companies due to their overabundance of leverage, which skews the model) and pulling together, as a proxy for future cash flows, a mountain of analyst earnings forecast data (annualized). They supplement those data with long-term growth-rate assumptions for certain industries, forming a 710,840-variable dataset. The key output is the estimated ICC, which is calculated by asking what expected returns have investors used to discount future cash flows (approximated in part by the analysts’ earnings forecasts) to observe the current equity prices. Although the use of actual future returns might seem like a reasonable means of representing expected returns, an approach in which ICC is used as a proxy for expected return is, the authors insist, a better estimate when running models that aim to drill down into the explanatory power of beta.
     
    WHAT ARE THE FINDINGS?
    Despite abundant current evidence that seems to reject the explanatory power of the market beta in expected returns, Shi and Xu assert that when tests are run with ICC as a proxy for expected return, the weaknesses seen by others are not necessarily present. They find that the future implied cost of capital is “both positively and significantly related to the conventional beta estimate,” implying that beta could still explain future cross-sectional expected return differences over a longer horizon. In other words, the conventional estimate of the market beta risk might be a good measure of the long-term market risk. As an example of how long-term expected return measures can be useful, Shi and Xu show a connection between individual stocks with high levels of uncertainty (i.e., an additional dimension of risk surrounding them as measured by analyst forecast dispersion) and long term expected returns as approximated by future ICC. Stocks with large dispersion—when analysts’ forecasts do not agree—tend to have high long-term expected return, suggesting that investors are compensated for taking on the uncertainty risk. Thus, not only is beta—or rather, long-term beta—of use when trying to forecast expected return, but it may bring with it unexpected positive results.
     
    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    CAPM may not be perfect, but it is intuitive, easy to apply, and powerful in practice. In fact, Shi and Xu’s research justifies the continued use by industry members of models such as Fama and French’s three-factor model, which includes the market factor as its most important factor. In addition, their results carry important implications across finance. For private equity firms and investment bankers assessing the value of a young company, what matters most? The answer (or at least what should be the answer) is the company’s growth potential and long-term expected return. The market risk beta value attached to the company is the risk associated with the company for many years to come. For portfolio managers struggling to rationalize, perhaps even to themselves, that a long-term conviction is worth holding, running numbers through a long-term prism can bring peace of mind and justify additional allocations. Shrewd investors will, of course, not just pay attention to a manager’s absolute performance, but also to their own level of beta risk. In addition, they will invest in strategies carrying levels of beta risk with which they can feel most comfortable.



    ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.
     
  • Green Finance Forum II: Is ESG Integration a Fad, or Does It Have Alpha Potential?

    31 May 2017
    777
    30

    In Asia, the subject of ESG investing has been a very trendy topic.  As we all know, for many years, many investors have tried to incorporate elements of values and social responsibility into their investment strategies.  However, the return of these strategies has in the past left a lot to be desired.  It is natural to wonder why a rational investor would be willing to compromise the chances of superior performance in return for moral gratification.
     
    Well, past performance is not always a guide to future performance, and change is in the air.  More and more investors and asset owners are now placing increasing focus on ESG.  As an example, California State Teachers Retirement System, one of the largest asset owners in the world, has asked their fund managers to evaluate and assess 21 risk factors in each of their holdings, including, among others regulation, human rights, environmental and governance.

    On April 27, 2017, CFA Institute hosted a Green Finance Forum in Hong Kong to explore this issue. Full report on that event is attached.
  • Practitioner's Brief (video): ​The Power of Private Information

    25 May 2017
    1400
    0

    Despite a recent crackdown on insider trading in China an assumption persists regarding the relative information inefficiency and asymmetry of less developed markets. Researcher Chi asks: How much is private information exploited in a less developed financial market like China?
    As it turns out, quite a lot.
  • Practitioner's Brief (Video):  Behind Closed Doors - How Private Meetings Move Public Markets

    25 May 2017
    567
    0

    The authors of a recent study on insider trading have taken a new, financial spin on the classic thought experiment that asks whether a falling tree makes any sound in an empty forest. Looking at how corporate insiders might use confidential information to make trades, they ask ‘If executives of publicly traded companies meet with investors, and no one from the public is around, does the information exchanged still influence the stock market?’ The results are striking.
  • Practitioner's Brief (Video):  Demystifying Seasonal Chinese Stock Return Synchronicity

    17 May 2017
    1826
    0

    How much of a stock’s movement can be attributed to the movements in the index in which it resides? And if a stock moves in line with an index (or, in academic language, has a “high R squared”) what, exactly, accounts for that? Industry members and academics have numerous theories. The authors of a new paper tackle the question of synchronicity using earnings season in China, when the information on companies is more robust.
  • Practitioner’s Brief: Expect the Unexpected - Why Tightened Trading Rules Created a More Efficient Index Futures Market

    06 Apr 2017
    3748
    0

    WHAT’S THE INVESTMENT ISSUE?
    In the summer of 2015, Chinese regulators aggressively tightened fairly lax trading rules in the country’s stock index futures market in the midst of a chaotic crash. The move, an effort to tamp down rampant speculation and manipulation, was widely criticized as an overreach. With margin barriers thrown up higher and position sizes significantly capped for nonhedgers, speculators all but vanished (a desired outcome); however, so too did volume, which decreased nearly 100%—not exactly a best-case scenario. “China has killed the world’s biggest stock index futures market,” Bloomberg wrote in September 2015. Illiquidity in the market for futures tied to the China Security Index 300 “was causing problems,” the Financial Times said. In hindsight, it’s worth asking: Were these regulations, while apparently necessary, nevertheless ill-advised? No, assert the authors, who do not gloss over the fact that liquidity was severely impacted. What they do emphasize is a rather counterintuitive finding: A market in which liquidity has ground to a halt does have an upside.

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    Eugene Fama’s efficient market hypothesis (EMH) holds that stock prices immediately and inherently reflect all available information such that there’s no predictive power to be gleaned, i.e., it’s all randomness at play. EMH has been endlessly tested and re-tested since it first emerged in the 1970s at a time when low-cost passive management was coming on the scene as a disruptor to active management. Several testing methods were used to batter/gut-check EMH. Prominent among them was the variance ratio (VR) test, put to use, alongside other tests, by authors Lin and Wang. They set out to measure the efficiency levels of the Chinese stock index futures between July 2015 and September 2015. During this period, a slew of rule changes were implemented, making it harder to trade index futures, a prevalent means of speculating, hedging, arbitraging, and as it turned out, carrying out manipulative schemes, e.g., pump-and-dumps or coordinated bear attacks. The futures market plays a major role in price discovery in the broader spot Chinese stock market. Prior to the change, rules for stock index futures trading were indeed loose and transaction costs were low. Leverage was plentiful and dangerously easy to access. When all of these conditions were curbed via tighter rules, something interesting happened. Yes, volume collapsed. But what happened to the market’s efficiency?

    WHAT ARE THE FINDINGS?
    The results of VR tests (and Granger causality tests) were puzzling. Although the authors thought they would find that regulatory tightening had a detrimental impact on market efficiency and price discovery, just as it had on volume and liquidity, it did not prove to be the case. To the contrary, the VR testing found that absolute VR levels of Chinese index futures’ five-minute returns went from roughly 2.70 before the rule change to around 1.0 after—a decrease of more than 50%. In other words, markets became more efficient in the post-tightening study period. With volume and liquidity in such a freefall, why would that happen? It is possible, explained the authors, that in low liquidity environments trading mainly occurs among the most knowledgeable institutional investors. Speculators and manipulators fall away. So we’re talking about very light trading—but among very well-informed participants free from the distractive din of the less informed. This hypothesis requires testing. If additional data was available, it would be an interesting topic for further research, according to the authors.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS? “Regulators can be helpful in a bad market state,” the authors said, noting that at the time the rules were imposed the stock futures market had been overrun by unchecked manipulators who were abetted by low barriers to leverage and the ability to upsize. The regulatory goal of squeezing nonhedgers out of the market was met. Authorities drastically reduced excessive manipulation—without unintentionally creating a less efficient market. Co-author Hai Lin explained in an email: “While extreme regulations do not happen often, that doesn’t mean that their potential can be ignored.” Regulations can tighten in stressful environments—or in other words, right when investors might be most inclined to employ hedging strategies. In developing risk management strategies, investors need to view regulatory conditions as a factor that can vary over time. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.
  • Practitioner’s Brief: Paying Attention to Stock Ranking

    03 Apr 2017
    793
    0

    WHAT’S THE INVESTMENT ISSUE?
    Investors have a limited amount of attention to give to their investment decisions. Many believe that paying attention to rankings of stocks provides them with a less attention demanding decision making shortcut. In reality, however, does paying attention to stocks ranked in a more salient place help improve financial decisions and market efficiency? Existing research on ranking and attention typically encounters the difficulty of separating out the pure effect of attention from that of fundamental news, which is especially true when rankings correlate with fundamentals. Thus, findings based on fundamental based rankings are subject to the confounding effects of both attention and fundamentals. The author tackles this challenge by exploring the price limit rule in China’s stock markets. Under that rule, stocks that hit the 10% upper price limit on a day are ranked by their daily returns, whose differentials are produced by mechanical rounding of maximum price changes as opposed to differential fundamental news. Investment practitioners in markets with the price limit rule in place may wish to exploit the impact of stock rankings for those stocks hitting the upper price limit. Thus, relevant questions to practitioners would pertain to (1) whether hitting the 10% upper price limit is truly an attention-grabbing event; (2) whether differential attention is allocated across the stocks hitting the price limit based on their rankings; and (3) whether stocks hitting the price limit that are ranked differently exhibit different subsequent returns, trading volume, volatility, and liquidity.

    HOW DOES THE AUTHOR TACKLE THIS ISSUE?
    The author conducted a series of tests to address the empirical questions posed above, studying a sample of China’s A-shares (shares that are quoted and traded in Chinese RMB) on China’s Shanghai Stock Exchange (SSE) and Shenzhen Stock Exchange (SZSE). The time period is from 16 December 1996, when SSE and SZSE initially established the current price limit rule, to 31 March 2015, when the research project was initiated. The author selects 2,505 out of 4,910 trading days; during these days the markets had at least 5 upper price-limit events. We hereafter call stocks that hit the upper price limit on a day the “event” stocks. For most stocks, the daily absolute price movement is regulated to be 10% of the previous trading day’s closing price. When the 10% price change is not an integer number of cents, the daily price limit is rounded to the nearest cent. This creates different maximum returns allowed across stocks with different previous closing prices. For example, stocks with the previous closing price of RMB 9.99, RMB 10.00, and RMB 10.01 would all have a daily maximum price change of RMB 1.00; this results in a maximum return limit of 10.01%, 10.00%, and 9.99%, respectively. The differential maximum return limit is, therefore, caused by mechanical rounding and not by differential fundamental news. As a result, the author identifies the pure effect of ranking by exploring the differential attention paid to the more saliently ranked stock, which returns 10.01% in a day in the previous example, versus those with less salient rankings, which return 10% or 9.99%, and the implications of rankings for the financial market. To carry out the tests, the author hand collected the website viewer data from hexun.com, one of the largest financial websites in China. The number of viewers from different IP addresses measures the attention paid by investors to a particular stock on a day. The author tested the impact of investor ranking by comparing two groups of event stocks, based on whether their event-day return was above median (usually 10%) or not, across dimensions of contemporaneous and subsequent returns, volume, volatility, and liquidity. Event stocks with the above median return were assigned to the high-rank group (with an average of above 12 stocks per day); the remainder were assigned to the low-rank group (with an average of near 10 stocks per day).

    WHAT ARE THE FINDINGS?
    The author finds that investors do pay significantly more attention to stocks hitting the price limit for several days on and after they hit the upper limit, measuring attention by the number of viewers on the hexun.com webpage. The abnormally high attention persists for two weeks after the event day. Furthermore, the high-rank group receives even more attention than the low-rank group on the event day and the subsequent three days. Relative to the low-rank group, the high-rank group of event stocks experiences a greater price increase for two days as well as a greater price reversal that follows within one to two weeks. As for trading volume, liquidity, and return volatility, the results suggest that during the post-event period, the high-attention group of event stocks exhibits higher trading volume, better liquidity, and higher volatility. Smaller investors are more affected by the rank effect. Moreover, the effect of trading volume and volatility is larger and persists longer, but the effect of liquidity is smaller and lasts only for a few days. These effects are noticeably stronger when a larger number of stocks are hitting the upper price limit on a particular day—thus, investors are more attention constrained and top rankings are more salient. The author conducts similar analyses on stocks with a 5% price limit and stocks that hit the 10% lower price limit. The evidence is overall weak, suggesting that it is the rankings of stocks that hit the upper price limit that matter most for attention allocation. When the maximum return is not extreme enough to make the top ranking, or the ranking is for losers and mainly attracts sellers, neither strong investor attention nor the effect of attention is found.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    The findings send a clear message that even pure rankings that are uncorrelated with fundamentals dictate investor attention and lead to large and predictable effects on asset prices. Understanding how ranking affects asset prices will help to improve portfolio performance for institutional and individual investors who trade in securities markets where financial assets are presented in various ranking formats. Investors may consider exploring the temporary price momentum and subsequent price reversal of highly ranked stocks, and more importantly, exploring the return differential between high- and low-rank groups of stocks using a long-short portfolio. The conventional wisdom is that having investors who pay attention is a good thing; it means that important fundamental news is received and consumed, leading to more efficient asset prices. Advances in behavioural finance in recent years, however, suggest that attention may have a detrimental effect when it interplays with behavioural biases, such as the pure order effect. The findings of this article demonstrate such evidence as well as opportunities for smart investors who are paying attention in the right places. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ Summarized by Danling Jiang and Jingyu Cui. Danling Jiang is an Associate Professor of Finance at Stony Brook University—SUNY and the Chang Jiang Scholar Visiting Professor at Southwest Jiaotong University. Jingyu Cui is a Master of Science in Finance student at Stony Brook University—SUNY.
  • Practitioner's Brief: Short-Sale Restrictions Imply Higher Returns

    02 Apr 2017
    2317
    0

    WHAT’S THE INVESTMENT ISSUE?
    Short-sale restriction is an important form of limits to arbitrage. In markets with partial shortsale restrictions, some stocks can be sold short (shortable stocks) whereas others cannot (no-short stocks). The latter are more subject to mispricing because of greater limits to arbitrage. Mispricing can be a source of risk, because investors may lose money if mispricing persists in the near term while they are betting against mispricing. Accordingly, finance theories predict that stocks more subject to mispricing—in this case, the no-short stocks—should on average earn a return premium as compensation for mispricing risk. Despite extensive research on short-sale constraints, few studies have directly tested the no-short return premium. Investment practitioners in markets with partial short-sale restrictions may want to exploit the no-short return premium induced by such regulations. To do so, they would ask two questions: Do the real-world data support the claim that no-short stocks on average earn higher returns? If so, how can they determine investment strategies based on the no-short return premium? The authors thus set out to reveal the superior expected excess and abnormal returns on no-short stocks over those on shortable stocks, as well as to demonstrate the strong return predictive power of the loadings on various long–short portfolios constructed using shortable and noshort stocks.

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    The authors test their prediction about the no-short return premium using the Hong Kong stock market’s unique regulatory setting. In the Stock Exchange of Hong Kong (SEHK), stocks are periodically added to or deleted from the list of shortable stocks. This list is selected from the pool of stocks satisfying criteria based on market capitalization, liquidity, and so on. Stocks on the list are “shortable,” and stocks excluded from the list are “no-short”. The authors form a portfolio consisting only of no-short stocks (denoted as N) and a portfolio of only shortable stocks (denoted as S). They then create a long–short portfolio (denoted as NMS, for “no-short minus shortable”) as the return spread between N and S. They consider four different NMS portfolios, using the SEHK size and liquidity criteria to decide which stocks should be added to, can remain on, or should be removed from the official short-sale list. Further, the authors use Fama–MacBeth two-pass regressions to investigate how well the loadings of the test assets (portfolios and stocks) on each of the four NMS portfolios can predict the cross-section of future asset returns.

    WHAT ARE THE FINDINGS?
    The authors find that from 1997 through 2014, the NMS portfolio earns a monthly return of 2% to 3%, or an abnormal monthly return of about 1.3%, after accounting for its correlations with a set of standard common factors (market, size, value, liquidity, etc.). Thus, on average, no-short stocks indeed earn a return premium over shortable stocks. Moreover, the authors discover that no-short and shortable stocks tend to co-move negatively: When no-short stocks do better, shortable stocks tend to do worse. Mostly importantly, the factor loadings on the four NMS portfolios are strong positive predictors of future portfolio and stock returns in the cross-section. For example, the regression estimates imply that moving from the lowest 20% to the highest 20% NMS loading stocks increases the expected return next month by 1.5% to 2.0%. Moving from the lowest five shortable to the highest five no-short size and book-to-market portfolios increases the future average return by more than 4% per month. The loadings on the other three NMS portfolios, formed by considering the size and liquidity criteria for the official shorting list, exhibit similar or somewhat stronger forecast power.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    The findings will help to improve portfolio performance for institutional and individual investors who trade in securities markets with partial short-sale restrictions. Investors may consider gaining exposure to the NMS factor beyond their exposures to other standard factors. A refined strategy would require extracting stocks with the most extreme loadings on the NMS factor, as well as forming a portfolio that is long the highest NMS loading stocks and short the lowest NMS loading stocks. Furthermore, the refined trading strategy can be combined with strategies based on other style characteristics. Popular wisdom is that investors should pay more attention to the information revealed by short selling and take advantage of this information through observed short positions. The findings in this article direct investor attention to another side of the market, however: the stocks that cannot be sold short. These no-short stocks actually earn higher average returns because many investors may shy away from trading these more likely mispriced stocks. As a result, investors who are willing to invest in these stocks are paid to do so. For firms, however, regulation is bad news: Short-sale restrictions imply higher cost of equity. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
    Summarized by Danling Jiang and Xiao-Ming Li. Danling Jiang is an associate professor of finance at SUNY at Stony Brook and the Chang Jiang Scholar Visiting Professor at Southwest Jiaotong University. Xiao-Ming Li is a professor of financial economics at the School of Economics and Finance (Albany), Massey University. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.
  • Practitioner’s Brief: Behind Closed Doors - How Private In-House Meetings Move Public Markets

    Tom Berry    Robert Bowen, Shantanu Dutta, Songlian Tang, Pengcheng (Phil) Zhu
    02 Apr 2017
    1000
    0

    WHAT’S THE INVESTMENT ISSUE?
    In this brief, we provide an investor’s-eye view of a piece of research that shines a floodlight on an inherently opaque subject—private meetings between senior management and investors. Both camps are presumed to know better than to share or receive anything that could be considered material non public information (MNPI). Nonetheless, the authors of this study point to some dubious trends associated with these sit-downs. The question of whether a falling tree makes noise in a forest devoid of hearing-enabled life forms has long held its own as a rudimentary philosophical riddle. But as a practical matter for debate, it’s not much of one, i.e., we’re pretty sure that in all likelihood, a tree crashing to the ground does make a sound. Now ponder this: If a private meeting between senior management and a fund manager takes place—and no one else is there to hear what’s said—are there consequences in the stock market? In other words, what is the point of these cozy sit-downs? Do the parties stand to benefit? Such meetings, of course, are routine and perfectly legal, provided the executives at the publicly traded company steer clear of disclosing any MNPI. The authors set out to ascertain, among other information, to what extent corporate insiders—who control the timing and content of meetings—trade on those meetings. “Overall, our results suggest that companies disclose material non-public information during these meetings and some participants trade on the information,” the authors state.

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    The question of whether the meetings lead to some competitively advantageous information being leaked, maybe inadvertently, under the camouflage of crafty syntax, or even brazenly, might have remained one of mankind’s eternal mysteries had it not been for the Shenzhen Stock Exchange (SZSE). In 2009, the SZSE became the first exchange to require listed companies to report dates of private meetings with investors. Since August 2012, the SZSE has also required summary notes of what was said during those meetings, creating a dataset of some 17,000 meeting reports that the quartet of authors mined to startling effect. The authors found highly suspicious trading patterns among company insiders timing transactions ahead of and in the wake of private meetings. Although only 20% of private meetings can be connected with disclosed insider-trading activities, it is worth underscoring that the trades, some USD12 billion over a 28-month sample period (August 2012–December 2014), represent nearly two-thirds of the value of all insider trading among SZSE-listed companies during that time. Interestingly, nearly three-fourths of listed companies held at least one private meeting per year; the average was around five meetings per year. Most meetings were hosted in the companies’ headquarters.

    WHAT ARE THE FINDINGS?
    The research shows a clear trend of abnormally positive stock returns starting approximately 22 days prior to the private meeting dates. In fact, the average stock price run-up translates into RMB73.1 million (or about USD11 million) per average firm in the sample. Call it the “meeting anticipation effect” whereby investors/insiders trade on the not-irrational belief that in-house meetings generally reveal positive information. Some insiders appear to be selling into what they anticipate to be herd buying, using the increased volatility to mask their offloads.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    Many large institutional investors will undoubtedly scoff at the implication that they are gaming the system—or being gamed—by participating in face-to face conversations with the leaders of the companies in which they are investing large sums. These fund managers will also point to proprietary research processes that emphasize sophisticated models and, using the authors’ term, a “mosaic” of skillfully assembled information. Companies that hold meetings, likewise, could just as easily frame these interactions as transparent corporate citizenry, as evidenced by the high “information quality” scores enjoyed by the majority of the companies that report private meetings. The pieces are thus firmly in place for the facilitation of reinforced feedback loops: Companies that hold meetings have more analysts covering them, and these analysts represent large funds whose trades are closely watched. Insiders, who have seen this movie before, are not blind to the ripple effects of a few well-placed dollops of promising insinuations or even flat-out MNPI utterances. That there is an opportunity, thanks to the SZSE and the authors, for a sophisticated fund manager to write an algorithm scouring the mere record that meetings took place in an effort to catch some window of upside could be seen as one logical outcropping of the findings here, although we can think of another. Regulators in a developed market such as the United States might also find it useful to require some record of private meetings. Fund managers in the United States spend USD1.4 billion a year for face time with executives. The investment pays off well for those fund managers who are invited to these meetings and who make profitable trades around the meeting dates. According to the authors, the information gained from private in-house meetings provides these fund managers, and their investors, with an additional competitive edge. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.
  • Practitioner’s Brief: Demystifying Seasonal Chinese Stock Return Synchronicity

    Tom Berry    Jing Wang, Steven X. Wei, Wayne Yu
    02 Apr 2017
    1160
    0

    WHAT'S THE INVESTMENT ISSUE?
    How much of a stock’s movement can be attributed to movements in the index in which it resides? And, if a stock moves in line with an index (or, in academic parlance, has a "high R-squared") what, exactly, accounts for that co-movement? Industry members and academics have numerous theories: shared information being digested in lockstep by portfolio managers; index funds rebalancing themselves; or random noise—some inexplicable yet observable factor that for whatever reason creates an environment of stock-return synchronicity. For quant managers spotting trends, there’s no point in asking why; they just want the trend to repeat. Not so for researchers such as Wang, Wei, and Yu, who want to bring new perspective to this puzzle, one that has proved tricky for active fundamental managers seeking to differentiate themselves against the benchmark. In tackling the question of synchronicity, the authors explore the issue across a dynamic setting—earnings season in China, when more-robust information on companies becomes available—and also consider newer companies versus older ones.

    HOW DO THE AUTHORS TACKLE THIS ISSUE?
    They examine synchronicity levels during earnings season, which for 98% of Chinese companies is January through April. The authors also go a step further, overlaying a variety of variables such as changes in fundamentals, fluctuating liquidity conditions, and corporate events. These events include any activity that could increase assets by 50% or more (e.g., a merger) and thus affect a company's systematic volatility.

    WHAT ARE THE FINDINGS?
    The authors discover that in rich information environments (i.e., earnings season), the degree of synchronicity (stocks moving in tandem) actually is reduced; and in less informative environments (non-earnings periods, May through December), synchronicity is more prevalent. This finding is noteworthy, if only in light of the overriding preconceptions about emerging markets such as China, long thought to generally be more prone to synchronous behavior relative to developed markets (for a host of reasons, including property rights considerations). Here, the authors are able to observe a repeated pattern: During Chinese earnings season, the degree of systematic volatility in that market is reduced. The trend is more pronounced for older companies with longer track records of meeting (or failing to meet) their numbers. One explanation stems from a concept that the authors call "intra-industry, cross-asset learning." Drilling down into this concept rather simplistically for illustration's sake, suppose three large companies from different industries (e.g., an automaker, a coal miner, and a retailer) make earnings announcements on the same day. Investors may make inferences about other companies in these respective industries. Now, further suppose that the following happens: The automaker’s earnings come in as expected; the coal miner’s come in better than expected; and the retailer’s do much worse than expected. In this example, one might expect share prices to behave distinctly among the three industries: mostly flat for auto firms, up for coal mining firms, and down for retailers. The market as a whole, however, may change little that day, with the offsetting share price changes in the different industries dampening the market or systematic volatility. In other words, share prices move in a less synchronized fashion because of intra-industry, cross-asset learning during the earnings announcement season, which reduces market or systematic volatility in the meantime.

    WHAT ARE THE IMPLICATIONS FOR INVESTORS AND INVESTMENT PROFESSIONALS?
    This study challenges the prevailing wisdom that Chinese stocks tend to move in step with each other, particularly with a time consideration (i.e., earnings season, when a higher intensity of firm-specific information arrives in the market). For stock pickers trying to differentiate themselves from a benchmark, earnings season would thus provide an especially opportune moment to show their ability to make a judgment call on a stock, take a position (bullish or bearish), and not have it mooted by the whims of the overall market. Conversely, for index investors, the authors’ findings suggest that the time to rebalance toward a passive approach would be during non-earnings season when Chinese stock market return synchronicity appears to be at a higher level. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the authors and do not represent the official views of CFA Institute or the authors’ employers.
  • Practitioner’s Brief: The Power of Private Information

    12 Mar 2017
    1590
    0

    WHAT'S THE INVESTMENT ISSUE?
    During the last 18 months, China has witnessed a flurry of securities fraud investigations and arrests involving a wide cross-section of the industry, from high-rolling financiers to humble accounting professors, and even some regulators. The insider-trading crackdown is partly an effort to wash away perceived stains of corruption following the crash of summer 2015. Even before that, though, Chinese insider trading cases had begun to mount as the market, and mechanisms to regulate it, matured. Despite its relative inexperience, China’s stock market is the second largest on earth. Still, an assumption persists (and is studied by researchers such as Chi) regarding the relative information inefficiency and asymmetry of less developed markets such as China. In his article, Chi makes no secret of his own perceptions about the pervasiveness of non-public information used for investing. One given in the hypothesis suggesting there are greater inefficiencies to potentially exploit in China relative to the United States is the fact that most Chinese mutual funds can outperform the index—certainly not the case in the United States. For Chi, then, the driving question becomes: To what extent is private information exploited in a less developed financial market such as China? To a significant degree, as it turns out. Chi’s research suggests that at a minimum, the insider buy is a powerful predictive tool for the generally upward direction of the stocks being bought, particularly for issues from state-owned enterprises (SOEs), and even more so for highly volatile stocks.

    HOW DOES THE AUTHOR TACKLE THIS ISSUE?
    Chi sets out to study insider trading in China via a proxy that, although an obvious choice, is nevertheless not to be conflated with criminal insider trading. That is, he looks at legal, disclosed trades made by corporate insiders, which, despite being purportedly aboveboard, still carry a connotation of information advantage. By creating a basic strategy to mimic insider buys, Chi demonstrates, at least on paper, the ability to add considerable alpha. Note that mimicking insider sells is not a good idea because sellers can have multiple motivations (e.g., liquidity or diversification needs). Buyers, on the other hand, generally are motivated by positive information. Mimicking insider buys may once have worked in the United States, when its stock market was nascent. Today, however, although by no means devoid of insider trading, the US market is viewed in academic terms as "efficient in semi-strong form." More informally, the system is not "rigged." If it were, Chi asserts, more US mutual fund managers would beat the index. In China, the perception of a rigged system became increasingly rampant after the summer of 2015 crash, as traders such as Xu Xiang (the Carl Ichan of China) seemed impervious to the market collapse when most other investors were crushed. Xu would later admit to conspiring with executives to control the timing of corporate announcements. To explore how private information is wielded in China, the author tapped the Wind Information database to study trading activity of corporate insiders (top executives, board members) between April 2007 and June 2014, focusing on the A-share market on two exchanges (Shanghai and Shenzhen) comprising some 2,555 stocks with a combined market cap (in 2013) of RMB20 trillion, or USD$3.3 trillion. The insiders' trading activity amounted to RMB900 billion, or 0.3% of total trading. Chi found the following: • Insiders reap large profits trading their company stocks. • Insider buys possess predictive power to stock prices; insider buys from SOEs have even stronger predicative power. • A rudimentary “mimicking-strategy” implemented for 12-month periods added 14.4% worth of annual alpha above the benchmark. And guess what else he found? The best-performing Chinese mutual funds' returns strongly correlated to the insider-mimicking strategy. Importantly, the fact that a fund trades in the same direction as insiders does not necessarily imply trading on material inside information. The author merely claims “that more correlated trading patterns point to a higher likelihood of private information shared by stock funds and corporate insiders." Because of data limitations, he cannot make a further claim about how fund managers obtain such private information.

    WHAT ARE THE IMPLICATIONS FOR PORTFOLIO MANAGERS?
    Before one delves into the art and science of insider-mimicking strategies, it is important to note an additional finding by the author. Chi split his six-year study into two three-year periods. In the latter period, the predicative power of the insider buy diminished significantly compared with the first period. So, as time passed, the Chinese market appears to have become more, not less, efficient. Here’s one last bit of material information that is hardly any secret: China’s recent insider trading crackdown will serve only to accelerate this trend. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
    Summarized by Rich Blake. Rich is a veteran financial journalist who has written for numerous media outlets, including Reuters, ABC News and Institutional Investor. The views expressed herein reflect those of the author(s) and do not represent the official views of CFA Institute or the authors’ employers.
  • Changes in Financial Regulation in the Time of Trump: Financial Choice Act

    22 Dec 2016
    361
    2

    This is a blog article from CFA Institute Market Insight Blog, posted on 18 November 2016.
  • CorpGov Roundup: Transparency a Common Denominator in Recent Governance Reforms

    21 Dec 2016
    486
    1

    This is a blog article from CFA Institute Market Integrity Insights, posted on 8 December 2016.
  • Dimensional Fund Advisors

    05 Dec 2016
    709
    15

    This is one of the presentation powerpoint in CFA China Conference on 20 August 2016.
  • THE WAY OF THE FUTURE: ACTIVE VERSUS PASSIVE INVESTING?

    05 Dec 2016
    654
    9

    This is one of the presentation powerpoint in CFA China Conference on 20 August 2016.
  • The Fixed-Income Challenge: The Monetary Policy Pit

    14 Oct 2016
    753
    0

    This is a blog posted on CFA Institute's website on 15 September 2016.
  • Daniel Goleman: Three Steps to Better Investing

    14 Oct 2016
    940
    0

    It is a blog posted on CFA Institute's website on 20 September 2016
  • Diversity in Finance: It Matters

    14 Oct 2016
    591
    0

    This is a blog posted on CFA Institute's website on 26 September 2016.
  • 100 Small Steps: Will India’s Bank Licenses Bring Reform?

    14 Oct 2016
    343
    0

    This is a blog posted on CFA Institute's website on 30 September 2016.
  • Are Commonsense Principles of Corporate Governance Any Good? Yes, They Are

    15 Aug 2016
    314
    4

    This is a blog posted on CFA Institute's website on 12 August 2016.
  • CorpGov Roundup: Has Brexit Ushered in Monumental Change to UK Corporate Governance?

    15 Aug 2016
    295
    1

    This is a blog posted on CFA Institute's website on 9 August 2016.
  • CorpGov Roundup: Is US Proxy Advisory Industry under Attack?

    15 Aug 2016
    298
    1

    This is a blog posted on CFA Institute's website on 6 July 2016.
  • Code and Standards: Are You Living Up To Your Annual Pledge?

    15 Aug 2016
    436
    2

    This is a blog posted on CFA Institute's website on 29 June 2016.